Reports from the Central Bank of Norway No 3/2004
11 Inflation report 2 with monetary policy assessments 04
J u l y
Inflation report 2/2004 Norges Bank’s Inflation Report
Norges Bank’s Inflation Report is published three times a year, in February/March, June/July and October/November.Sections 1-4 of the report contain an analysis of developments in inflation, output and demand 3 years ahead. As from Inflation Report 2/04, the Executive Board’s monetary policy strategy and interest rate setting will be published in Section 5 of the Inflation Report.
2
The Inflation Report is published three times a year, and together with Financial Stability, is part of Norges Bank’s series of reports. The report is also available on Norges Bank’s website: http://www.norges-bank.no.
The series of reports is included in the subscription for Economic Bulletin. To subscribe please write to:
Norges Bank Subscription Service PO Box 1179 Sentrum N-0107 Oslo Norway
Telephone: +47 22 31 63 83 Fax: + 47 22 41 31 05 E-mail: [email protected]
Editor: Svein Gjedrem (Section 5 presents the Executive Board's assessments) Design: Grid Strategisk Design AS Setting and printing: Reclamo grafisk senter AS The text is set in 111⁄2 point Times
ISSN 0807-8521
Inflation report 2/2004 Monetary policy in Norway
Objective The Government has defined an inflation target for monetary policy in Norway. Norges Bank’s operational conduct of monetary policy shall be oriented towards low and stable inflation. The operational target of monetary policy shall be annual consumer price inflation of approximately 2.5 per cent over time.
In general, direct effects on consumer prices resulting from changes in interest rates, taxes, excise duties and extraordinary temporary disturbances shall not be taken into account. Norges Bank places particular emphasis on CPI inflation adjusted for tax changes and excluding energy products (CPI- ATE) when assessing underlying inflation.
Horizon and implementation 33 Norges Bank operates a flexible inflation targeting regime, so that weight is given to both variability in inflation and variability in output and employment.
Monetary policy influences the economy with long and variable lags. Norges Bank sets the interest rate with a view to stabilising inflation at the target within a reasonable time horizon, normally 1-3 years. The more precise horizon will depend on disturbances to which the economy is exposed, and how they will affect the path for inflation and the real economy ahead.
The decision-making process The key interest rate is set by Norges Bank’s Executive Board. Decisions concerning interest rates and other important changes in the use of instruments will normally be taken at the Executive Board’s monetary policy meeting every sixth week. The analyses in Norges Bank’s Inflation Report, together with assessments of price and cost developments and conditions in the money and foreign exchange markets, form the basis for monetary policy decisions.
The main features of the analysis in the Inflation Report are presented to the Executive Board for discussion at a meeting about two weeks before the Report is published. On the basis of the analysis and discussion, the Executive Board assesses the consequences for the monetary policy strategy and interest rate-setting in the period to the next Inflation Report. Their assessments are published in Section 5 of the Inflation Report.
Communication of the interest rate decision and reporting The monetary policy decision is announced at 2pm on the day of the meeting. The Bank holds a press conference at 2.45pm on the same day, whether interest rates are changed or left unchanged. The press release and the press conference are available on Norges Bank’s website, www.norges-bank.no.
Norges Bank reports on the conduct of monetary policy in the Inflation Report and the Annual Report. The Bank’s reporting obligation is set out in §75c of the Constitution, which stipulates that the Storting shall supervise Norway’s monetary system, and in §3 of the Norges Bank Act. The Annual Report is submitted to the Ministry of Finance and communicated to the King in Council and to the Storting in the Government’s Kredittmelding (Credit Report). The Governor of Norges Bank provides an assessment of monetary policy in an open hearing before the Standing Committee on Finance and Economic Affairs in connection with the Storting deliberation on the Credit Report.
Inflation report 2/2004 4
Inflation report 2/2004 Inflation Report 2/2004 with monetary policy assessments
Editorial 7
Summary of economic developments 8
1. Recent developments 10
2. International developments 16
3. Domestic developments 20 5
4. Inflation projections 27
5. Monetary policy assessments and strategy 34
Boxes Recent price developments 14 Increase in number of working days in 2004 21 Financial stability 43 Norges Bank's estimate of the output gap 46 A change in inflation expectations? 49 Preliminary evaluation of the projections in Inflation Report 1/04 51 What are the factors behind the rise in oil futures prices? 55
Annex Regional network 59 Statistics 65 Detailed projections and assumptions 71
The cut-off date for the Inflation Report was 1 July 2004
Sections 1 - 4 are based on information in the period to 24 June
Inflation report 2/2004 6
Inflation report 2/2004 Editorial
Continued need for low interest rates
Pursuant to §3 of the Norges Bank Act, Norges Bank shall inform the public about the assessments underlying decisions relating to the conduct of monetary policy. The transparency of the basis for monetary policy decisions has increased substantially in recent years.1 Norges Bank is now further enhancing transparency by publishing the Executive Board's monetary policy strategy for the next four months (Strategy Document) as part of the Inflation Report at the beginning of the period. Since we for a period have also presented a more extensive account of the background for interest rates decisions, it will no longer be necessary to publish a separate statement with an assessment of the inflation outlook. The formulations as to the horizon for monetary policy have also been adjusted. The new wording reads as follows:
Monetary policy influences the economy with long and variable lags. Norges Bank sets the interest rate with a view to stabilising inflation at the target within a reasonable time horizon, normally 1-3 years. The more precise horizon will depend on disturbances to which the economy is exposed and how they will affect the path for inflation and the 7 real economy ahead.
The new formulations better express the conduct of monetary policy.
The point of departure for the monetary policy strategy ahead is the very low level of inflation. Inflation has been lower than the inflation target since autumn 2002. The aim of monetary policy is higher inflation. The monetary policy stance is therefore expansionary.
The projections in this report are based on the assumption that the interest rate and krone exchange rate move in line with market expectations. There is considerable uncertainty surrounding these assumptions, and hence price developments. In relation to the previous Inflation Report in March, where inflation was projected to return to target two years ahead, the projections are now based on the assumption that the krone exchange rate will be 31⁄2% stronger through the projection period. This is the main reason why the projections in this report show a path for inflation where inflation does not reach target until summer 2007. The Executive Board's assessment is that monetary policy should be oriented towards achieving higher inflation at an earlier stage. A more expansionary monetary policy than in the baseline scenario in this report might contribute to this. The most appropriate alternative now seems to be that the interest rate should be kept unchanged for a longer period than indicated by market expectations. The prospect of continued low inflation in Norway also implies that Norway should not be the frontrunner when interest rates are increased in other countries.
The Executive Board’s assessment is that the economic projections imply a sight deposit rate in the interval 11⁄4 - 21⁄4% at the beginning of November 2004. If the krone appreciates substantially, this may provide a basis for considering an interest rate at the lower end of, or below, the interval. The unusually low interest rate and uncertainty concerning the effects of previous monetary policy easing imply that we should exercise caution with regard to further interest rate reductions. On the other hand, given the prospect of low inflation ahead, wide deviations from projected economic developments would be required before it would be appropriate to increase the interest rate within the strategy period.
Jarle Bergo 1 July 2004
1 See box on page 21 in Norges Bank's Annual Report for 2003.
Inflation report 2/2004 Summary of economic developments
Inflation is low. Since the March Inflation Report, inflation has moved in line with projections. Inflation is being restrained by the appreciation of the krone in 2002, the fall in prices for imported consumer goods, measured in foreign currency, and strong competition in many industries in Norway.
Low interest rates and the international upturn are stimulating activity in the Norwegian economy. According to preliminary national accounts figures, demand in the mainland economy was stronger than projected at the end of last year and early in 2004. The output gap is expected to close, but to remain marginally negative in 2004.
8 The cyclical upturn in the world economy has gained a firmer footing. The recovery is broadening, particularly reflecting a pick-up in growth in several euro-area countries in recent months. Growth among Norway’s main trading partners has been somewhat stronger than previously assumed, and growth projections for 2004 have been revised upwards. Stronger economic growth has exerted upward pressure on commodity prices. Oil prices are high. Interest rate expectations have risen in many countries.
Monetary policy in Norway is oriented towards returning inflation to target. The sight deposit rate has been lowered to 1.75 %. The projections in this report are based on the assumption that the interest rate follows forward interest rates. The assumption implies a gradual rise through the projection period. The krone exchange rate is assumed to move in line with the forward exchange rate, which implies a fairly stable exchange rate ahead. Forward interest rates are now higher than in March and the krone has appreciated. Overall, forward interest rates and the forward exchange rate therefore point to a somewhat tighter monetary policy ahead than the assumptions underlying the projections in the March report. As a result, the projections for growth in the real economy and inflation in 2005 and 2006 are somewhat lower than in the previous report.
Growth in the Norwegian economy is nevertheless projected to pick up markedly this year and remain relatively high next year. The main growth impetus is private consumption, fuelled by low interest rates and high real wage growth. The global cyclical upturn will probably generate positive impulses to internationally exposed sectors in Norway. Petroleum investment will continue to expand strongly in the coming years. Mainland business investment is also expected to pick up in the period ahead.
Inflation report 2/2004 In recent years, many enterprises have rationalised operations. As a result, they have been, and probably still are, able to increase production to a fairly large extent without any substantial increase in real capital and employment. There are prospects of solid growth in productivity in 2004. Against this background, the growth in potential output is assumed to be higher than normal this year. Capacity utilisation is expected to rise, but the output gap, as measured by Norges Bank, will remain marginally negative in 2004.
Productivity growth is projected to normalise after a period. Sustained high growth in demand will then lead to 9 an increase in the use of resources. Business investment is projected to rise. Higher demand for labour will result in lower unemployment, with the prospect of somewhat higher wage growth. The output gap is projected to be marginally positive in the period 2005 to 2007.
Given the underlying assumptions, it will take time for inflation to return to target. CPI-ATE inflation is nevertheless projected to show a marked rise in the period to the end of the year, primarily reflecting the krone depreciation in 2003. Inflation is projected to continue to rise in the period 2005- 2007, but at a slower pace. A continued low rise in prices for imported consumer goods in foreign currency, the price effects of stronger competition in the Norwegian economy and slower wage growth this year will probably exert downward pressure on inflation in the years ahead. In the March report, inflation was projected to reach the inflation target in the course of spring 2006. Under the assumptions of a stronger krone exchange rate and higher interest rates, the projections in this report show that inflation will pick up, but remain below target until summer 2007.
Inflation report 2/2004 1 Recent developments
Inflation has remained low in line with projections Chart 1.1 CPI-ATE1). Total and by supplier sector2). Inflation is low. The year-on-year rise in consumer 12-month rise. Per cent. Jan 01 May 04 prices adjusted for tax changes and excluding energy 6 6 products (CPI-ATE) was 0.1% in May (see Chart 1.1). Goods and services produced in Norway Developments in recent months have been broadly in 4 4
line with the projections in the March Inflation Report. 2 CPI-ATE 2 Changes in trade patterns and high productivity growth in the production of some goods are still contributing to 0 0 a fall in prices for many of Norway’s imported consumer -2 Imported consumer goods -2 goods. Sharper competition in a number of industries is -4 -4 also contributing to low inflation. -6 -6 Since February, the monthly rise in the CPI-ATE has picked 2001 2002 2003 2004 up. The depreciation of the krone from January 2003 to 1) CPI-ATE: CPI adjusted for tax changes and excluding energy products 10 March 2004 is contributing to a higher rise in prices for 2) Norges Bank's estimates Norway’s imported consumer goods. At the same time, the Sources: Statistics Norway and Norges Bank fall in prices for these goods, measured in foreign currency, has begun to decelerate. Chart 1.2 Prices for goods and services produced in The rise in prices for domestically produced goods and Norway1). 12-month rise. Per cent. Jan 01 May 04 services is still slowing, however. This is probably to a 6 6 large extent ascribable to increased competition, although 5 Services produced in Norway (27) 5 lower wage growth is also making a contribution. The rise 4 4 in prices for services has fallen particularly sharply in the past year (see Chart 1.2). New entrants and stronger 3 3 competition have contributed to lower air fares and prices 2 2 Goods produced in Norway (27) for telecom services. A more detailed description of 1 1 consumer price movements in recent months is presented 0 0 in a box on page 14. -1 -1 2001 2002 2003 2004 Continued excess capacity in the Norwegian 1) Adjusted for tax changes and excluding energy products Percentage share of CPI-ATE in brackets. Norges Bank's economy, but higher growth estimates Sources: Statistics Norway and Norges Bank Total output is probably slightly lower than the level that is consistent with stable inflation over time. Growth in the Norwegian economy slowed in 2002 and was low in the first half of 2003, but has since picked up. The economy is being stimulated by low interest rates and the global upturn. Demand in the Norwegian economy appears to be growing somewhat more rapidly than projected in March.
Low interest rates are stimulating household demand. Growth in borrowing remains high, and housing investment has begun to rise again. At the same time, the low rise in prices has resulted in high real wage growth, despite relatively low nominal pay increases in this year's wage settlements. Private consumption is growing strongly.
There are signs that mainland business investment is picking up. The international recovery is contributing to increased optimism in the Norwegian business sector, as
Inflation report 2/2004 confirmed by information from Norges Bank's regional network. Activity has increased in most industries, and the Chart 1.3 Employed persons according to LFS. In millions. Seasonally adjusted. Monthly figures. outlook ahead is described as favourable. Jan 98 Mar 04 2.30 2.30 Unemployment appears to have levelled off, after having risen through 2002 and 2003. Despite growing activity and increasing demand, employment growth remains low (see 2.28 2.28 Chart 1.3). Employment in the public sector has fallen. Many companies, both in the private and public sector, are 2.26 2.26 rationalising. Low growth in employment, coupled with the increase in output, indicates that companies are still 2.24 2.24 reaping benefits from these measures. Many companies in our regional network have previously reported that they can 2.22 2.22 increase output to a fairly large extent without a substantial 1998 1999 2000 2001 2002 2003 2004 increase in employment. Growth in potential output therefore appears to be somewhat higher than normal. 11 Source: Statistics Norway However, mainland GDP is probably growing somewhat more than potential output. The output gap, according to our assessment, is still negative, but is closing gradually. Chart 1.4 Interest rate expectations. Actual developments and expected key rate1) at 24 Jun 04. Positive external growth and inflationary 2 Jan 03 1 May 06 6 6 impulses
5 UK 5 Global growth has picked up, spurred by strong growth in the US and parts of Asia. During spring, interest rate 4 4 expectations increased in many countries, possibly reflecting
3 Norway 3 expectations of stronger growth and higher inflation. Euro area 2 2 In the US, positive labour market figures and signs of 1 US 1 higher inflation have contributed to higher interest rate 0 0 expectations. Market participants are now expecting the 2003 2004 2005 2006 key rate in the US to be raised in summer 2004 (see Chart
1) FRA and futures contracts adjusted for the estimated difference 1.4). They expect interest rates to be raised by about 11⁄4 between 3-month money market rates and the key rate Sources: Bloomberg, Reuters and Norges Bank percentage points in the US and 1⁄2 percentage point in the UK by end-2004. Market expectations point to an interest rate increase of 1⁄4 percentage point in the euro area towards the end of 2004.
Stronger international growth has pushed up commodity prices. Oil prices are high, and oil futures prices have risen substantially in recent months (see box on page 55). The rise in oil prices is contributing to higher inflation among many of our trading partners, but also to curbing the international upturn. For the Norwegian economy, however, expectations that oil prices will remain high for a long time may have a positive effect on the activity level and investment in the petroleum sector.
Prices for some metals rose substantially in late 2003 and early 2004, and have remained high thereafter. Some Norwegian manufacturing sectors are benefiting from increased demand and higher prices.
Inflation report 2/2004 Owing to higher commodity prices, producer prices among our most important trading partners have edged up. Export prices are also showing signs of rising. Nevertheless, Chart 1.5 Yield on government bonds with 10 years residual maturity. Daily figures. external impulses to Norwegian consumer prices remain 1 Jan 03 24 Jun 04 low. 6 6 Expectations of a tighter monetary policy ahead Norway 5 5 Interest rate expectations in Norway increased during spring. Market participants now seem be expecting an Germany interest rate increase of 1⁄4 percentage point towards the end 4 4 of 2004. This implies a key rate of around 2% towards the
end of the year. US 3 3 Norwegian 10-year government bond yields have increased Jan 03 May 03 Sep 03 Jan 04 May 04 12 by around 0.5 percentage point since March of this year (see Chart 1.5), bringing yields to around the level prevailing Sources: Bloomberg and Norges Bank in December 2003. Bond yields in Norway have increased more or less in tandem with the rise in the US, and to a further extent than in other European countries. This may Chart 1.6 Import-weighted exchange rate index, indicate expectations of a more rapid economic upturn in I-441). Daily figures. 1 Jan 04 24 June 04 Norway and in the US. The interest rate differential between 102 102 Norway and trading partners is expected to turn positive in the beginning of 2006. 100 100
Since Inflation Report 1/04 was finalised at the beginning 98 98 of March, the Norwegian krone has appreciated by about 96 96 3%, measured by the import-weighted index I-44 (see Chart 1.6). The appreciation of the krone partly reflects 94 94 expectations of higher interest rates in Norway. However, the rise in oil prices and expectations of a sustained high oil 92 92 price may also have played a part. Jan 04 Mar 04 May 04 Jul 04 1)A rising curve denotes a weaker krone exchange rate Higher oil prices have resulted in higher current account Source: Norges Bank surpluses which, in isolation, should contribute to strengthening the krone. However, higher surpluses are being offset by an increase in long-term capital outflows via the Government Petroleum Fund and external investment of petroleum revenues. Foreign trade figures indicate that mainland imports have increased sharply in recent months. This points to increased demand for foreign currency which, in isolation, may contribute to weakening the krone. However, portfolio investments may easily dominate movements in the krone exchange rate in the short term.
Our projections for economic developments ahead are based on technical assumptions concerning developments in the interest rate and krone exchange rate. Our assumptions are based on market expectations as implied by the forward interest rate and the forward exchange rate.
Inflation report 2/2004 Developments in financial markets since the March report indicate that a less expansionary monetary policy is expected in the period ahead. Forward interest rates have risen for the years ahead. The increase is largest for the last years in the projection period.
The forward exchange rate can be derived from the expected interest rate differential between Norway and trading partners. As in Inflation Report 1/04, the forward exchange rate points to expectations of a fairly stable krone exchange rate ahead. However, the krone has appreciated since March. The forward exchange rate therefore implies that the exchange rate is expected to remain at a stronger level in the period ahead than assumed in the March report. 13
Inflation report 2/2004 Recent price developments
The year-on-year rise in consumer prices adjusted for tax changes and excluding energy products Chart 1 CPI-ATE1). Total and by supplier sector2). 12-month rise. Per cent. Jan 01 May 04 (CPI-ATE) was 0.1% in May (see Chart 1). Even though the year-on-year rise has remained low so 6 6 Goods and services produced in Norway far this year, the monthly rise in the CPI-ATE has 4 4 edged up since February. 2 CPI-ATE 2 The rise in prices for imported consumer goods is 0 0
being curbed by changes in trade patterns and high -2 Imported consumer goods -2 productivity growth for the production of some -4 -4 consumer goods. Intensified competition in Norway is also contributing to a subdued rise in prices for -6 -6 domestically produced goods and services. 2001 2002 2003 2004 1) CPI-ATE: CPI adjusted for tax changes and excluding energy products 14 Decelerating fall in prices for imported 2) Norges Bank's estimates consumer goods Sources: Statistics Norway and Norges Bank In May, prices for imported consumer goods were 2.0% lower than in the same month one year earlier. The depreciation of the krone in 2003 has probably Chart 2 Prices for selected imported consumer contributed to moderating the year-on-year decline goods1). 12-month rise. Per cent. in prices for these goods since the beginning of Jan 2004 May 2004 the year. Cars, clothing, footwear and audiovisual 5 5 equipment account for a high share of imported consumer goods. The fall in prices for most of Cars (9) 0 0 these groups has decelerated in recent months (see Chart 2). Car prices have risen by almost 1% -5 Audiovisual -5 since May 2003. In May, the year-on-year decline equipment (3) in prices for clothing and footwear was 7.7%, -10 -10 while it was as much as 12.2% in November last year. The fall in prices for audiovisual equipment Clothing and footwear (7) -15 -15 has not moderated to the same extent, probably 2001 2002 2003 2004 because technological improvements and stronger international competition are resulting in lower 1) Percentage share of CPI-ATE in brackets prices for these products. Prices for audiovisual Sources: Statistics Norway and Norges Bank equipment were 7.2% lower in May than one year earlier. Chart 3 Prices for goods and services produced in Norway1). 12-month rise. Per cent. Continued low rise in domestic prices Jan 01 May 04 The year-on-year rise in prices for domestically 7 7 produced goods and services decelerated from Services with wages as a dominant factor (7) 1.7% in January to 1.0% in May (see Chart 1). 5 5 House rent (18) The year-on-year rise in prices for domestically 3 3 Consumer goods produced in Norway produced goods that are influenced by world market 1 excluding energy products2) (20) 1 prices was 1.5% in May. The effects of the strong krone in 2002, low external inflationary impulses -1 -1 Other services (20) and lower wage growth have probably resulted in a -3 -3 slower rise in input costs for Norwegian producers, 2001 2002 2003 2004 thereby providing a basis for a slower rise in selling 1) Adjusted for tax changes and excluding energy products Percentage share of CPI-ATE in brackets. Norges Bank's estimates prices. For example, furniture prices rose by 0.7% 2) Excluding agricultural and fish products between May 2003 and May 2004. Sources: Statistics Norway and Norges Bank
Inflation report 2/2004 The rise in prices for domestically produced past six months. The rise in prices for these services consumer goods that are not directly influenced was 4.2% in May. by world market prices has also slowed somewhat. The grocery industry is being influenced by new Temporary disturbances international low-price chains that are being The rise in the CPI-ATE is being influenced by established in Norway, which has exerted downward some extraordinary temporary disturbances and pressure on prices for some goods. Beer prices in direct effects of changes in interest rates that Norges particular have shown a sharp fall, declining by Bank does not take into account in its conduct of 9.4% over the past year. monetary policy.
The rise in house rents has been subdued over the The introduction of maximum rates for day-care past year, but is still contributing to holding up centres in 2004 and 2005 has a one-off impact domestic inflation. The year-on-year rise in house on consumer prices and may be regarded as an rents decelerated from 4.2% in May 2003 to 1.7% extraordinary temporary disturbance. The direct in May 2004. The slower rise in house rents must effects of interest rates on house rents may be partly been seen in connection with the decline in looked upon as a direct effect of the interest rate interest rates since December 2002.1 on consumer prices. These two factors have pushed down overall consumer price inflation by an 1155 Prices for services with wages as a dominant estimated 0.1-0.2 percentage point since January cost factor have continued to rise at a brisk pace, 2004. For the past twelve months, the contribution showing a year-on-year rise of 4.8% in May 2004. is probably somewhat higher. Adjusted for these The year-on-year rise in prices for craftsmen effects, the year-on-year rise in the CPI-ATE was services has been about 3% since January. The year- probably a little less than 1⁄2% in May. on-year rise for hair and beauty care was 4.4% in May. The rise in prices for non-institutional health Higher CPI inflation services has slowed somewhat, but is still very high Consumer prices including tax changes and energy at nearly 9%. products (CPI) have been heavily influenced by wide fluctuations in energy prices since the The rise in prices for services with important beginning of 2003. The year-on-year rise in the CPI cost factors other than wages has decelerated picked up after the effects of high electricity prices since spring 2003. New entrants and increased recorded at the beginning of 2003 were eliminated. competition have contributed to lower air fares. Air In May, electricity prices were 2.6% lower than in fares have fallen by 27% since May 2003 (see Chart May 2003. Petrol prices have edged up as a result of 4). Prices for insurance services are still holding up high and rising oil prices. In May, the year-on-year overall service prices, but the year-on-year rise in rise in petrol prices was 14.1%. The CPI showed a these prices has decelerated considerably over the year-on-year rise of 1.0% in May 2004 (see Chart 5).
Chart 4 Air fares1). 12-month rise. Per cent. Chart 5 CPI and CPI-ATE. 12-month rise. Per cent. Jan 04 May 04 Jan 01 May 04 30 30 6 6 5 5 20 20 CPI 4 4 10 10 3 CPI-ATE 3 0 0 2 2 1 1 -10 -10 0 0 -20 -20 -1 -1 -2 -2 -30 -30 -3 -3 2001 2002 2003 2004 2001 2002 2003 2004 1) Adjusted for tax changes Sources: Statistics Norway and Norges Bank Sources: Statistics Norway
1 See box in Inflation Report 3/2003: “Direct effects of interest rates on house rents”.
Inflation report 2/2004 2 International developments
Chart 2.1 GDP. 4-quarter growth. Per cent. The economic recovery is continuing (see Chart 2.1). The 01 Q1 04 Q1 recovery has broadened, primarily because growth has also picked up in several euro area countries in recent months. 5 5 Growth among our main trading partners is somewhat US stronger than expected earlier and the growth projections 3 UK 3
for 2004 have been revised upwards. Euro area 1 1 Consumer price inflation has edged up in recent months, primarily reflecting a sharp rise in some commodity prices, -2 Japan -2 particularly oil. The rise in prices is also attributable to higher inflation in China. Underlying inflationary pressures -4 -4 remain moderate. As a result of high commodity prices, 2001 2002 2003 2004 the inflation projections have nevertheless been adjusted Sources: EcoWin, Statistics Japan, National Statistics (UK), 16 upwards. Interest rates are now expected to rise at a EUR-OP/Eurostat and Bureau of Economic Analysis (US) somewhat earlier stage in the US and the euro area than was assumed in the March Inflation Report (see Chart 2.2). Sustained high oil prices probably represent the main risk to developments ahead, both as regards general economic Chart 2.2 Interest rate expectations. Actual developments and expected key rate1) at 4 March developments and inflation. and 24 June 2004. 2 Jan 03 1 May 06 6 6
Continued high growth in the US 5 5 UK Economic activity in the US remains high, but the rate of 4 4 growth has slowed appreciably since the third quarter of 3 3 2003. In the first quarter of 2004, GDP was about 5% higher Euro area 2 2 than in the same quarter one year earlier. Private demand is 1 1 still the main driving force, supported by low interest rates US 24 June 4 March and tax reductions. Growth in private investment has slowed 0 0 somewhat, but remains high. Growth in private consumption 2003 2004 2005 2006 has remained firm. 1) FRA and futures contracts adjusted for the estimated difference between 3-month money market rates and the key rate The labour market has improved considerably since the Sources: Bloomberg, Reuters and Norges Bank beginning of the year. Employment has picked up and the labour force has expanded in recent months. Inflation is quickening, primarily fuelled by higher commodity prices, but also higher prices for health services and higher import Chart 2.3 Structural budget balance. Per cent of prices. nominal GDP. Annual figures. 1995 20051) 2 2 Economic growth is expected to moderate in the period US ahead, primarily as a result of slower growth in private 0 0 consumption. The US authorities are planning to tighten -2 -2 fiscal policy next year, as measured by the structural budget Euro area deficit (see Chart 2.3). In addition, monetary policy is -4 -4 expected to be somewhat tighter. Japan -6 -6 Faster growth in the euro area -8 -8 Economic activity in the euro area has picked up. GDP was 1995 1997 1999 2001 2003 2005 1.3% higher in the first quarter than in the same quarter 1) Estimates for 2003 2005 one year earlier. Growth was particularly strong in France Source: OECD
Inflation report 2/2004 and Spain, but Germany also showed a clear upswing. For the euro area as a whole, net exports represented the main Chart 2.4 Consumer prices. 12-month rise. Per driving force, but private consumption also made a positive cent. Jan 01 Jun 04 contribution. However, investment fell again in the first 6 6 quarter after exhibiting solid growth towards the end of last Ireland year.
4 4 Inflation has shown a marked rise in recent months (see Portugal Chart 2.4), primarily reflecting the sharp rise in oil prices. Euro area Higher prices for health services are also pushing up 2 2 inflation. As a result, underlying inflation has also risen since the beginning of the year. Germany 0 0 GDP growth is expected to continue at a moderate pace Jan 01 Jan 02 Jan 03 Jan 04 this year. Solid growth in the world economy is expected to Sources: EcoWin, EUR-OP/Eurostat, Federal Statistical boost net exports in spite of the substantial appreciation of Office (DE) and Central Statistics Office (IRL) the euro up to January this year. Euro-area exports consist 17 of a large share of capital goods, which are generally more sensitive to changes in global demand than to changes in the exchange rate. In addition, euro-area investment is expected Chart 2.5 Consumer prices. 12-month rise. Per to pick up as a result of higher corporate profits. Private cent. Jan 01 May 04 consumption is expected to make an increasing contribution 4 4 to growth from 2005, primarily as a result of improved Denmark (HICP) labour market conditions. 3 3 Sweden (UND1X) 2 2 Stronger growth in Denmark, Sweden and the United Kingdom 1 Finland (HICP) 1 Norway (CPI-ATE) In Denmark, domestic demand has picked up markedly 0 0 over the past year, while export growth has slowed so far this year. GDP growth is expected to increase ahead, -1 -1 Jan 01 Oct 01 Jul 02 Apr 03 Jan 04 primarily supported by an expansionary fiscal policy. In the UK, the Bank of England has increased its key rate Sources: EcoWin, Statistics Norway, Statistics on three occasions so far this year in response to the Sweden, Statistics Finland and Statistics Denmark continued global recovery, brisk growth in private and public consumption and investment, and high activity in the housing market. Industrial output has also picked up in recent months. Employment has shown a marked increase, and unemployment is at its lowest level in several decades. Table 2.1 GDP estimates. Percentage change from previous year Moreover, wage growth has been moderate. The monetary policy tightening is expected to result in slower growth in 2004 2005 2006 2007 private consumption. In Sweden, developments have been US 41⁄4 3 3 3 more mixed. Production has expanded, particularly in the Japan 4 11⁄2 11⁄2 11⁄2 Germany 11⁄2 13⁄4 2 2 export industry, with a rise in new orders. On the other France 2 21⁄4 21⁄2 21⁄2 hand, employment is not rising. Consumer price inflation UK 3 21⁄2 21⁄2 21⁄2 has been low and falling, and was negative in February. Sweden 23⁄4 23⁄4 21⁄4 21⁄4 In recent months, inflation, as measured by the Swedish Norgway's trading 21⁄2 21⁄2 21⁄2 21⁄2 partners1) central bank’s target variable UND1X, has edged up again Euro area2) 13⁄4 21⁄4 21⁄2 21⁄2 (see Chart 2.5). GDP growth is expected to be higher ahead, 1) Export weightings both as a result of higher global demand and domestic 2) Weights from Eurostat demand, supported by an expansionary monetary policy. Source: Norges Bank
Inflation report 2/2004 Continued growth in Asia
Growth in Japan has continued to be a positive surprise. In the first quarter, year-on-year growth in GDP was 5.0%, which is the strongest growth rate recorded since 1991. Chart 2.6 Producer prices. 12-month rise. Per cent. Jan 00 May 04 The main driving forces behind growth have been exports and investment in export industries. In recent quarters, 6 6 private consumption has also made a positive contribution. US 4 4 The contribution from public demand has been marginally negative. Some improvement in labour market conditions is 2 UK Euro area 2 expected to provide further impetus to private consumption growth in the period ahead. Consumer prices are still 0 0 Japan declining, but producer prices are showing a moderate rise -2 -2 (see Chart 2.6). Higher global demand and rising growth in private consumption are expected to contribute to moderate -4 -4 growth during the projection period. In the somewhat Jan 00 Jan 01 Jan 02 Jan 03 Jan 04
longer term, however, Japan will still face considerable Sources: EcoWin, EUR-OP/Eurostat, Bureau of Labor challenges, primarily associated with the volume of non- Statistics (US), Statistics Japan, Federal Statistical 18 performing loans in the banking sector, sizeable budget Office (DE) and National Statistics (UK) deficits and high government debt.
In China, year-on-year GDP growth was 9.8% in the first quarter (see Chart 2.7). Private consumption expanded at Chart 2.7 GDP. Change on same quarter previous year1). Per cent. 01 Q1 04 Q1 a brisk pace, but investment growth continued to be the 12 12 main growth impetus. Investment is now estimated at between 40% and 50% of GDP. The Chinese government 10 10 has implemented measures this year to restrain growth and 8 China 8 prevent an overheating of the economy. Moreover, banks 6 6 are vulnerable in the event of a sharp economic slowdown, 4 India 4 partly as a result of the high share of bad loans to state 2 2 enterprises. The rise in food and commodity prices has Malaysia fuelled consumer price inflation in recent months. In May, 0 0 the year-on-year rise in consumer prices was 4.4%. Excess -2 -2 capacity in manufacturing and substantial slack in the 2001 2002 2003 2004 1) labour market may still generate downward pressures on GDP in India is measured at factor prices Sources: EcoWin, National Bureau of Statistics (CH), prices in the longer term. Central Bank of Malaysia, Central Statistical Organisation (I) and Consensus Economics Growth in activity has also been high in other Asian countries, with year-on-year growth estimated at between 4% and 7.5% in the first quarter for many countries in South and Southeast Asia. The expansion in Asia has been Chart 2.8 Oil price1) in USD per barrel. Daily figures. 1 Jan 01 24 Jun 04. fuelled by rising net exports, but domestic demand has also Futures prices at 4 Mar 04 and 24 Jun 04 started to pick up. In India, ICT services in particular have 40 40 shown strong growth in recent years. Futures prices 35 24 June 04 35
High oil prices Oil price 30 30
Oil prices have remained at a historically high level over 25 Futures prices 25 a longer period and are now appreciably higher than 4 March 04 expected in the March report. Since March, oil futures 20 20 prices have shown a pronounced rise (see Chart 2.8 and box on page 55). The rise in spot prices primarily reflects 15 15 a higher-than-expected increase in oil demand, while non- 2001 2002 2003 2004 2005 2006 OPEC production growth has been lower than expected. 1) Brent Blend Stocks are still low, particularly in the US. Refineries and Sources: International Petroleum Exchange and Norges Bank
Inflation report 2/2004 other infrastructure are nearing capacity limits. The current Chart 2.9 Commodity prices in USD. Index. unrest in the Middle East has also placed a risk premium Jan 1994=100. 3-month moving average. Monthly figures. Jan 94 Jun 041) on oil. Oil prices are assumed to move in line with futures prices ahead. 170 Copper 170 150 Aluminium 150 Higher commodity prices generate added 130 130 uncertainty 110 110 The sharp rise in commodity prices in the first quarter 90 Zinc 90 of 2004 has added to the uncertainty surrounding future 70 70 developments in output and inflation. An economic recovery Coal tends to be marked by rising commodity prices in pace with 50 50 rising demand. This is in line with developments in 1994, 1994 1996 1998 2000 2002 2004 for example (see Chart 2.9). In this cyclical upturn there 1) Average from 1 June 24 June are also special factors, especially relating to developments Sources: London Metal Exchange, HWWA and EcoWin in China, that are pushing up prices. Heavy investment in 19 production capacity in China has been one of the main driving forces behind lower consumer goods prices in recent years. The steep rise in demand for commodities has not, Chart 2.10 Wage growth. Change on same quarter however, been matched by higher investment in extraction previous year. Per cent. 97 Q1 04 Q1 and production. This, combined with other bottlenecks in 7 7 production in China, has exerted upward pressure on prices 6 6 for finished goods. These factors are expected to continue UK to push up prices for export goods from China for a period 5 5 ahead. 4 4 3 US 3 Oil price developments represent the main risk factor. 2 2 High global growth is an important factor behind the rise 1 Euro area 1 in oil prices in recent months. However, the real oil price is not particularly high. OECD and IEA calculations show, 0 0 however, that a rise in oil prices of about USD 10, in line 1997 1999 2001 2003 with the increase over the past year, will reduce global GDP Sources: Bureau of Labor Statistics (US), National by 0.5 percentage point. The impact on the euro area will Statistics (UK) and EUR-OP/Eurostat be somewhat more severe than on the US owing to higher oil imports.
Higher oil prices have already led to a rise in producer prices Chart 2.11 Consumer price inflation. Year-on-year (see Chart 2.6). The OECD and the IEA have calculated rise. Per cent. 1995 20071) that the effect of the oil price rise on the rise in consumer 4 4 prices in the OECD area will be about 0.5 percentage point
US Euro area the first year. However, the effects over the next few years depend on the attendant effect on wage growth. Excess 2 2 production capacity and productivity gains will contribute to curbing the effects of higher oil prices on wage growth Norway's trading partners (see Chart 2.10), and hence on inflation. However, there is a 0 0 risk that the price impulses may be stronger than assumed. Japan
-2 -2 1995 1997 1999 2001 2003 2005 2007 1) Estimates for 2004 2007 Sources: OECD and Norges Bank
Inflation report 2/2004 3 Domestic developments
Low interest rates and the global upturn are stimulating Chart 3.1 Assumption for the money market rate1). activity in the Norwegian economy. Demand appears to be Forward interest rate2). Monthly figures. Per cent growing somewhat more rapidly than projected in Inflation 10 10
Report 1/04. 3-month money 8 market rate 8 Many firms have enhanced efficiency over the past few 6 Forward rate 24 June 6 years, which has provided them with the scope, which (assumption IR 2/04) probably still exists, for increasing production fairly sharply 4 4 without a marked increase in real capital or employment. We have assumed stronger growth in potential output than 2 2 normal this year. This curbs the build-up of substantial 0 0 pressures on economic resources, even though strong output 2001 2002 2003 2004 2005 2006 2007 1) The money market rate is normally about 1⁄4 percentage point higher growth is expected this year. The output gap is projected to than the sight deposit rate approach zero, but will continue to be marginally negative 2) 3-month money market rate up to May 2004. The 3-month forward rate is estimated using four money market rates and four government 20 in 2004. See box on Norges Bank’s projections for the bond yields with different maturities as observed on 24 June output gap on page 46. Source: Norges Bank
Monetary policy will stimulate activity in the Norwegian economy for a period ahead. The projections for the period Chart 3.2 Assumption for the krone exchange rate up to 2007 are based on the technical assumption that the (I-44)1). Forward exchange rates. Monthly figures interest rate will move in line with the forward interest rate. 110 110 This assumption implies a gradual increase in interest rates
(see Chart 3.1). The krone is assumed to follow the path Import-weighted exchange rate, I-44 of the forward exchange rate, which implies a fairly stable 100 100 exchange rate in the period ahead (see Chart 3.2).
Forward rate 24 June Growth in mainland GDP is projected to be relatively high 90 (assumption IR 2/04) 90 this year and next. Private consumption is the main driving force, fuelled by low interest rates and strong growth in real wages. Developments in consumption will contribute 80 80 to solid growth in activity in retail trade enterprises and 2001 2002 2003 2004 2005 2006 2007 service industries supplying the household sector. The 1)A rising curve denotes a weaker krone exchange rate global upturn will probably provide a positive impetus to Source: Norges Bank the internationally exposed sector. Petroleum investment will continue to show strong growth, providing a positive impetus to the Norwegian supplier industry. When demand rises in the Norwegian economy, the current excess capacity Chart 3.3 Projections for the output gap1), actual GDP2) and trend GDP2). Annual figures. in many service industries will gradually be reduced. A 1990 20073) normalisation of growth in potential output implies that 10 1400 both employment and investment will edge up. Employment 8 Actual GDP (right-hand scale) is expected to be somewhat lower and the output gap to be 6 Trend GDP 1100 marginally positive from 2005 to 2007 (see Chart 3.3). (right hand 4 scale) 2 Households 800 0
-2 Output gap (left-hand Despite reduced job security and rising unemployment, scale) growth in household consumption held up last year, curbing -4 500 the slowdown in the Norwegian economy. Growth in 1990 1994 1998 2002 2006 1) The output gap is a measure of the difference between consumption was stimulated by the interest rate reductions actual and trend mainland GDP. Difference in per cent through 2003. Interest rates are now at a low level. Labour 2) In billions of NOK. Constant 2001 prices 3) Estimates for 2004 2007 Sources: Statistics Norway and Norges Bank
Inflation report 2/2004 Increase in number of working days in 2004 There are three additional working days in employees have a fixed monthly salary. This 2004 compared with 2003, or an increase of implies that hourly wages fall when the 1.2%. The increase in the number of working number of working days increases. If the days will in isolation lead to an increase in increase in number of working days also leads output and the number of person-hours hours to a decline in overtime, labour costs will fall worked between 2003 and 2004, as registered further. The overall impact on unit labour in the national accounts. costs will also depend on the attendant effect on productivity. However, the increase in the number of working days will not be fully reflected in the number A change in the number of working hours from of person-hours worked or in production. Some one year to next has little impact on underlying sectors such hospitals, some transport sectors growth in the economy. Even if output rises, and manufacturing sectors, the restaurant an increase in the number of working days and hotel industry and electricity production implies an increase in resources, with little 21 operate almost continuously. These sectors will impact on the output gap. Temporary swings in only be affected by the 2004 leap-year effect, unit labour costs as a result of a change in the which influences employment and production. number of working days will probably have a For agriculture, there are factors other than limited effect on enterprises’ pricing. working days that influence production. In some sectors, the effects on production may Against this background, Norges Bank has taken also be countered by a decrease in productivity account of working days in its projections. Our or a decline in working hours. projections for GDP, employment and other variables should be perceived as underlying Economic variables other than output and growth in the economy and can thus be looked employment may also be influenced by a upon as adjusted for calendar effects. change in the number of working days. Many
market prospects have improved. Growth in consumption Table 3.1 Key aggregates for Norway 2004 - 2007. has shown a further increase and housing investment has Percentage change from previous year begun to rise again.
2004 2005 2006 2007 Over the past couple of years, developments in household Mainland demand 41⁄4 31⁄4 23⁄4 21⁄2 Private consumption 51⁄4 4 23⁄4 23⁄4 disposable income have been strongly influenced by wide Public consumption 2 11⁄2 11⁄2 11⁄2 fluctuations in dividend payments. Changes in tax rules Fixed investments 33⁄4 4 4 31⁄2 contributed to dividends in 2002 that were abnormally high, Petroleum investments 10 5 5 -5 Traditional exports 51⁄4 31⁄2 3 3 which will probably also be the case in 2003. Dividend Imports 71⁄2 33⁄4 23⁄4 11⁄2 payments paid are very unevenly distributed among Mainland GDP1) 31⁄2 3 21⁄2 21⁄2 households. It also appears that most of the extraordinary Employment 1⁄2 11⁄4 3⁄4 3⁄4 payments have been reinvested in the companies. This 2) LFS unemployment 41⁄4 4 4 4 implies that overall private consumption has been largely 1) Percentage of labour force unaffected by changes in income growth as a result of Source: Norges Bank dividend payments. This is also reflected in the saving ratio, as measured in the national accounts, which rose from about 4% in 2001 to 9.5% in 2002, and which was close to 8% last year. If the extraordinary dividend payments are excluded, the saving ratio over the past two years may be estimated
Inflation report 2/2004 at 5-6%. The projections for real household income growth exclude the effect of a fairly sharp decline in dividend Chart 3.4 Real growth in household disposable payments expected in the years ahead. income and consumption. Annual figures. Per cent. 1990 20071) Growth in real disposable income will be fairly high this 10 10 Real income growth year, even with a moderate wage settlement (see Chart Real growth in 3.4). This is mainly due to falling interest expenses and 8 consumption 8
an expected low rise in prices. Later in the projection 6 6 period, it is expected that employment will increase, with a somewhat tighter labour market. Wage income will then 4 4 probably increase somewhat more, but growth in real income will be dampened by higher inflation and rising net 2 2 interest expenses. Real income growth is projected at 3% 0 0 in both 2005 and 2006. 1990 1993 1996 1999 2002 2005
1) Estimates for 2004 2007 Buoyant activity in the housing market and high house prices have contributed to strong growth in credit to Sources: Statistics Norway and Norges Bank 22 households. The debt burden has increased, particularly in low- and middle-income groups. In these groups, changes in interest rates and hence disposable income probably have a fairly strong impact on consumption. As the interest rate level normalises, growth in private consumption is expected to slow, even if there are prospects of an increase in employment and some decrease in unemployment.
Growth in private consumption is projected at 51⁄4% between 2003 and 2004, in pace with real income. In 2005, real income growth is expected to be lower. However, consumption growth is projected to remain relatively high and the saving ratio to edge down. In 2004 and 2005, the saving ratio will be marked by this year’s particularly strong growth in real income, and we assume that households prefer to smooth consumption over time. In 2006 and 2007, consumption is projected to grow more closely in line with growth real income.
Information from Norges Bank’s regional network suggests that activity in the housing market is high. House prices seem to have risen fairly sharply from 2003 to 2004 (see Chart 3.5). See Norges Bank’s report Financial Stability Chart 3.5 Seasonally adjusted house prices. 1/04 for further discussion on the factors affecting house NOK 1000 per square metre. Monthly figures. price developments. Preliminary national accounts figures Jan 00 May 04 indicate that housing investment, after falling in the first 18 18 half of last year, was already edging up towards the end 17 17 of the year. Developments suggest that housing investment may increase somewhat more this year than previously 16 16 assumed. 15 15
14 14 Gradual increase in business investment 13 13
High growth in labour costs over a number of years 12 12 and increased competition have resulted in deteriorating 2000 2001 2002 2003 2004 profitability in many companies. Due to the need for Sources: Norwegian Association of Real Estate Agents consolidation, both employment and investment have and Association of Real Estate Agency Firms
Inflation report 2/2004 declined. Mainland enterprises reduced their investment by over 8% from 2002 to 2003. While household debt growth Chart 3.6 Growth in credit1) to households and enterprises. 12-month growth. Per cent. has been high, companies have reduced their debt (see Jan 97 Apr 04 Chart 3.6). Twelve-month growth in credit to non-financial enterprises has been negative since November 2003. 18 18 15 15 Credit to Many firms have implemented efficiency measures. Some 12 households 12 of the companies in our regional network now report that 9 9 profitability has improved. The rise in unit labour costs 6 6 has slowed, reflecting both lower wage growth and more 3 Credit to non-financial 3 efficient production in many enterprises than previously. enterprises 0 0 Improved profitability and prospects of solid growth in -3 -3 foreign and household demand suggest that business 1997 1999 2001 2003 investment will increase in the period ahead. Since the 1) From domestic sources (C2) beginning of the 1990s, investment as a share of GDP has Source: Norges Bank evolved in line with cyclical developments, as reflected in movements in unemployment (see Chart 3.7). During the 23 current upturn, investment as a share of GDP is projected to rise in line with that observed in previous upturns. Chart 3.7 Investment in mainland Norway as a share of mainland GDP and LFS unemployment. Per cent. In retail trade and some service sectors, activity has been 1) Annual figures. 1992 2007 held up by solid growth in household demand. Private 21 2.7 Investment share (left-hand scale) consumption will probably continue to rise sharply over the 3.3 coming years. Housing investment also appears to be rising. 19 These factors imply that activity in retail trade and some 3.9 service enterprises will continue to increase. Preliminary 17 4.5 national accounts figures show that investment in these LFS unemployment 5.1 sectors is edging up. Imports of capital goods such as office (inverted, right-hand scale) 15 machines and computer equipment have increased recently, 5.7 and the number of vehicles imported for the business sector 6.3 is high. 13 1992 1996 2000 2004 1) Estimates for 2004 2007 Investment in service industries will probably be restrained by a continued high vacancy rate for office premises. The Source: Statistics Norway need for investment in new buildings is thus limited. As a result of this excess capacity, investment in services and retail trade are expected to constitute a somewhat smaller share of value added than has been the case on average over the past ten years. Nonetheless, retail trade and the service sector are expected to make the strongest contribution to growth in mainland business investment in the period ahead.
There are also signs of an improved situation in manufacturing, although the picture is more mixed. Some parts of this sector are experiencing increased foreign demand. Strong growth in the US and in a number of Asian and Eastern European countries is boosting demand and pushing up prices for some commodities. The business tendency survey and Norges Bank’s regional network both indicate rising optimism among producers of intermediate goods. The situation is not as favourable in other manufacturing industries. Even though competitiveness has
Inflation report 2/2004 strengthened recently, high labour costs are still restraining activity. Developments in the production of capital goods Chart 3.8 Manufacturing output index. Volume. and consumer goods are still fairly weak (see Chart 3.8). 3-month moving average. Jan 00 Apr 04 Overall, although manufacturing output is no longer falling, growth is still sluggish. Increased optimism and 114 114 somewhat higher capacity utilisation nonetheless suggest 110 Capital goods 110 that investment in manufacturing may rise at a moderate pace in the years ahead. 106 106 Consumer 102 102 Investment in petroleum extraction, including pipeline goods
transport, was very high in 2003, increasing by 16% since 98 Intermediate 98 2002 to NOK 63.3bn last year. The rise was mainly due to goods 94 94 higher investment in on-shore facilities, while investment in exploration activities was at its lowest for many years. 90 90 Investment in extraction and pipeline transport are expected 2000 2001 2002 2003 2004 to continue to rise both this year and next. Important contributors here are the Snøhvit and Ormen Lange Source: Statistics Norway 24 projects. When these two major development projects have been completed, total petroleum investment is likely to decline. In our projections, it is assumed that oil prices will remain fairly high in the years ahead, which might curb the Chart 3.9 Change in structural non-oil budget fall in investment. balance1). Annual figures.1990 2004 3 3 Stronger fiscal stimulus 2 2
The fiscal guidelines imply that the use of petroleum 1 1 revenues over the central government budget shall over time correspond to the expected real return on the 0 0 Petroleum Fund. At the same, fiscal policy shall contribute -1 -1 to stabilising output and employment. -2 -2
Central government accounts for 2003 show a substantially -3 -3 larger structural, non-oil deficit than estimated in the 1990 1992 1994 1996 1998 2000 2002 2004 National Budget for 2004 (see Chart 3.9). This year’s deficit 1) The budget balance as a percentage of trend GDP for mainland Norway, change on previous year is also likely to be larger than previously projected. In the Source: Revised National Budget 2004 approved budget for 2004, the use of petroleum revenues is estimated to be NOK 22bn higher than a mechanical application of the fiscal rule would imply. It appears that the fiscal stimulus in the period 2002 to 2004 as a whole will be stronger than called for in the National Budget for 2004. Chart 3.10 Underlying spending growth in the government budget and nominal growth in mainland GDP. Year-on-year growth. Per cent. 1990 20041) Underlying growth in central government expenditure, in value terms, is estimated at around 5% in both 2003 and 10 10 Underlying 2004. This is higher than mainland GDP growth, in value 8 spending growth 8 terms, in the same period (see Chart 3.10), but on a par with trend growth. 6 6
Our projections for growth in public sector expenditure as 4 4 from 2005 are based on the assumption that the structural, 2 Nominal growth in 2 non-oil deficit will remain unchanged, and that public mainland GDP sector expenditure will grow in pace with trend growth in 0 0 mainland GDP in value terms. Based on this assumption, 1990 1992 1994 1996 1998 2000 2002 2004 we project public sector real expenditure growth at about 1) Estimates for 2004 11⁄2% as from 2005. Sources: Ministry of Finance and Statistics Norway
Inflation report 2/2004 Public sector employment fell by 1⁄2% from 2002 to 2003 and has not provided the same stable contribution to Chart 3.11 Growth in number employed and contributions from the public sector. Annual figures. employment growth in the past couple of years as previously 1971 2003 (see Chart 3.11). This may be due to the deterioration in 4 4 local government finances as a result of strong growth in Employment growth, labour costs over several years. Employment has also been 3 3 per cent reduced as a result of rationalisation and outsourcing of 2 2 public services to private operators. 1 1 0 0 In value terms, the rise in overall local government -1 Contribution from -1 revenues is estimated at close to 7% from 2003 to 2004, public sector, -2 percentage points -2 after an increase of 4% last year. Real growth in total local -3 -3 government revenues from 2003 and 2004 is estimated at -4 -4 around 33⁄4%. This is the highest growth in real revenues 1971 1976 1981 1986 1991 1996 2001 since 1997. Source: Statistics Norway High revenue growth may provide the basis for an increase in activity this year after virtually no change in activity in 25 2002 and 2003. This also implies that employment in the local government sector may increase in the period ahead.
Chart 3.12 Change in employment on previous year, On the other hand, local government budget deficits are per cent. Unemployment1) as a percentage of the substantial and debt is rising. We assume that about half labour force. Annual figures. 1980 20072) of this year’s revenue growth will be used to reduce the 4 LFS unemployment deficits. Local government consumption is estimated to 6 (left-hand scale) increase by 11⁄4%. 2
4 Improvement in the labour market 0 Employment has shown little increase since last summer, 2 -2 even though output growth has been high. According to Number employed (right-hand scale) the quarterly national accounts, employment in the first 0 -4 quarter of this year was 0.3% lower than in the first quarter 1980 1985 1990 1995 2000 2005 of last year. Manufacturing employment has declined, 1) LFS unemployment 2) Estimates for 2004 2007 while employment has risen in education, health and social services and retail trade. Sources: Statistics Norway and Norges Bank Reports from our regional network suggest moderate growth in employment in the period ahead. The number of new vacancies advertised in the media is still low. According Chart 3.13 Labour force as a percentage of to our contacts, however, prospects are somewhat brighter population aged 1674 (labour force participation than at the beginning of the year, particularly in the private rate). Per cent. Annual figures. 1980 20071) service sector. Employment is expected to increase by 1⁄2% 75 75 from 2003 to 2004 (see Chart 3.12), i.e. and increase of Labour force 73 participation rate 73 13 000 in the number employed, implying that employment growth will be fairly moderate in relation to demand and 71 71 output. In the years ahead, the difference between output growth and the rise in the number employed is expected to 69 69 be somewhat smaller. Employment is projected to increase by 11⁄4% next year, and 3⁄4% in 2006 and 2007. 67 67
65 65 Growth in the labour supply has been weak in the past year 1980 1984 1988 1992 1996 2000 2004 after several years of growth on a par with, or stronger 1) Estimates for 2004 2007 than, population growth (see Chart 3.13). The labour force Sources: Statistics Norway and Norges Bank participation rate fell by 0.6 percentage point last year, to 72.9 per cent. The decline must be seen in the light
Inflation report 2/2004 of weaker economic developments. When labour market Chart 3.14 Number of disability pensioners as a conditions deteriorate, there tends to be an outflow from percentage of the population (aged 18 67) and the labour force, for example into education. Increased number of sickness days per employee1). Annual economic activity in the period ahead will push up the figures. 1980 2003 labour supply. 14 14 Sickness days2) 12 12 Structural changes also affect the labour supply. From 1980 to 2003, the supply of labour increased on average 10 10 somewhat more than the population in the age group 16 to 8 8
74. This difference is partly due to an increase in the labour Disability force participation rate among women. In addition, the age 6 pensioners 6 composition of the population has also made a positive 4 4 contribution to the labour supply. The increase in the 1980 1984 1988 1992 1996 2000 1) Paid by the National Insurance number of disability pensioners has had the opposite effect. 2) Since 2000 the sick pay scheme has also applied to all central government employees. This results in a break in the series On average, the rise in the number of disability pensioners between 1999 and 2000 has reduced growth in the labour supply by 0.2 percentage Source: National Insurance Administration 26 point per year from 1980 to 2003 (see Chart 3.14).
The increase in the number of disability pensioners will probably continue to curb growth in the labour force in the years ahead. The age composition of the population will also over time contribute to reducing the labour supply somewhat. In addition, much of the potential for an increase in the participation rate among women has been exhausted.
Overall, the labour force is projected to expand by 1% next year. In 2006 and 2007, the labour force is expected to grow somewhat less than the working age population. With these developments in the labour supply and in employment, unemployment will edge down this year and next. Measured by the LFS, unemployment is estimated at 4% in the years from 2005 to 2007.
The rise in the number of person-hours worked has been substantially lower than the rise in the number of employed (see Chart 3.15). These developments may to some extent be explained by the increase in part-time employment, although a marked rise in sickness absence has also Chart 3.15 Developments in number of person-hours contributed. Over the past ten years, sickness absence worked and the number of employed persons in mainland Norway. Annual figures. Index. 1970=100. has on average increased by around 1⁄4% per year. Our 1970 2003 projections are based on the assumption that increased 150 150 sickness absence and more extensive use of part-time employment will continue to limit the rise in person-hours, 140 Employment 140 although to a lesser extent than has been the case over the 130 130 past ten years. 120 120 Person-hours 110 110
100 100
90 90 1970 1975 1980 1985 1990 1995 2000
Sources: Statistics Norway and Norges Bank
Inflation report 2/2004 4 Inflation projections
4.1 Inflation outlook Chart 4.1 Assumption for the krone exchange rate Inflation is still very low, but has edged up in the last few (I-44)1). Forward exchange rates. Monthly figures months. Norges Bank’s sight deposit rate has been reduced 110 110 to 1.75%. The krone exchange rate, measured by the import-weighted index I-44, has depreciated by about 10% Forward rate 4 March (assumption IR 1/04) since the beginning of 2003. 100 100 In Inflation Report 1/04, published in March, inflation was Forward rate 24 June (assumption IR 2/04) projected to reach the inflation target of 21⁄2% in the course 90 90 of spring 2006. Since the beginning of March 2004, the Import-weighted krone has appreciated by about 3%. The forward exchange exchange rate, I-44 rate now reflects expectations of a krone exchange rate at 80 80 approximately the current level in the years ahead (see Chart 2001 2002 2003 2004 2005 2006 2007 4.1). Market participants have also revised upwards their 1)A rising curve denotes a weaker krone exchange rate interest rate expectations (see Chart 4.2). If the interest rate Source: Norges Bank and exchange rate move in line with assumptions, inflation may remain below the inflation target up to summer 2007. 27
Inflation in Norway is being restrained by low and in part
Chart 4.2 Assumption for the money market rate1). negative external price impulses. The rise in prices for Forward interest rate2). Monthly figures. Per cent internationally traded goods measured by other countries’ 10 10 export prices has picked up, but is still low. In addition, 3-month money a steadily growing share of Norway’s imported consumer 8 8 market rate goods comes from low-cost countries in Asia and Central
6 Forward rate 24 June 6 Europe. This is dampening the effects on inflation of a (assumption IR 2/04) weaker krone over the past 18 months. 4 4 2 2 Forward rate 4 March The rise in prices for domestically produced goods and (assumption IR 1/04) services is being curbed by strong competition. This has 0 0 2001 2002 2003 2004 2005 2006 2007 exerted pressures on profit margins. Many enterprises have
1) The money market rate is normally about 1⁄4 percentage point higher cut costs, with an attendant increase in productivity. Wage than the sight deposit rate 2) 3-month money market rate up to May 2004. The 3-month forward growth has moderated. There are signs that the Norwegian rate is estimated using four money market rates and four government economy can sustain high growth in the near term without bond yields with different maturities as observed on 4 March and 24 June a substantial rise in price and wage inflation. Source: Norges Bank Nevertheless, inflation is projected to edge up in the period ahead. The depreciation of the krone through 2003 will result in higher prices for imported consumer Chart 4.3 CPI-ATE. Seasonally adjusted monthly goods. Adjusted for seasonal variations, monthly CPI-ATE rise. 3-month moving average, annualised. inflation is projected to be positive in the coming months Oct 03 Dec 041) (see Chart 4.3). The year-on-year rise in consumer prices 3 3 will pick up fairly rapidly towards the end of the year (see 2 2 Chart 4.4). Historical 1 1 According to the projections, inflation will continue to 0 0 rise in the period from 2005 to 2007, but at a slower pace. Projections Driving forces other than the exchange rate will push up -1 -1 inflation. Demand in the Norwegian economy is projected -2 -2 to remain high, which is expected to lead to an increase in
-3 -3 the use of resources. Increased demand for labour will result Nov 03 Feb 04 May 04 Aug 04 Nov 04 in lower unemployment, with the prospect of somewhat
1) Estimates from Jun 04 Dec 04 higher wage growth. The output gap will gradually turn Sources: Statistics Norway and Norges Bank slightly positive.
Inflation report 2/2004 Higher commodity prices point to higher external price impulses ahead. The prospects for international wage 1) growth, on the other hand, point to persistently moderate Chart 4.4 CPI-ATE. Total and by supplier sector . 12-month rise. Per cent. Jan 01 Dec 072) inflation. The shift in imports towards low-cost countries 6 6 is pushing down prices for imported consumer goods. This Goods and services produced in Norway trend is expected to continue in the next few years. It is 4 4
assumed that external price impulses will normalise towards 2 CPI-ATE 2 the end of the projection period. 0 0
The appreciation of the krone since March 2004 will -2 -2 gradually dampen the rise in prices for imported consumer Imported consumer goods goods. Given the underlying exchange rate assumption, -4 -4 prices for these goods are projected to remain virtually -6 -6 unchanged in 2005 and 2006 (see Chart 4.4). The effect of 2001 2002 2003 2004 2005 2006 2007
the krone appreciation since March will gradually unwind. 1) Norges Bank's estimates Higher external price impulses are then projected to lead to 2) Estimates from Jun 04 Dec 07 a higher rise in prices for imported consumer goods. Sources: Statistics Norway and Norges Bank 28 Oil prices have been high over a longer period. Since the beginning of the year, oil prices have risen by about 15%. The direct effect of oil prices on inflation is not measured Chart 4.5 CPI and CPI-ATE. 12-month rise. in the CPI-ATE, which excludes energy products. Indirect Per cent. Jan 01 Dec 071) effects, such as increased fuel costs in the transport industry, 6 6 will nevertheless exert some upward pressure on inflation. CPI 4 4 Given the interest rate and exchange rate assumptions, CPI- ATE inflation is projected to edge up fairly slowly in the period 2005 to 2007. Inflation is not likely to reach target 2 2
until the end of the projection period. CPI-ATE 0 0 Developments in the consumer price index including tax changes and energy products (CPI) have been marked -2 -2 by substantial fluctuations in electricity prices since the 2001 2002 2003 2004 2005 2006 2007 beginning of 2003 (see Chart 4.5). The effect of these 1) Estimates from Jun 04 Dec 07
fluctuations has now largely been eliminated and CPI Sources: Statistics Norway and Norges Bank inflation has edged up. Higher oil prices have contributed to higher petrol prices recently. As a result, the CPI is likely to increase somewhat more rapidly than the CPI-ATE in the near term. Later in the projection period, the two indices are expected to rise at the same pace. Chart 4.6 CPI and prices for imported consumer goods. Annual figures. Index. 1998=100. 1979 2003 4.2 Price impulses 120 120 Low, but increasing external price impulses 105 Imported consumer goods 105 The rise in prices for imported consumer goods has been low since the mid-1990s. During this period, the rise in 90 90 prices for these goods has been considerably lower than the 75 75 rise in the overall CPI (see Chart 4.6), primarily reflecting 60 Consumer price index 60 low external price impulses. Slow growth in costs for the distribution and sale of goods in Norway has probably also 45 45 made a contribution. In the last two years, the appreciation 30 30 of the krone in 2002 has further dampened inflation. 1979 1983 1987 1991 1995 1999 2003
Source: Statistics Norway
Inflation report 2/2004 External price impulses to the Norwegian economy, as measured here, have been negative in recent years. Prices Chart 4.7 Projected price movements for some imported consumer goods, measured in foreign for imported consumer goods, measured in foreign currency, currency. Quarterly figures. Index. 91 Q1=100. fell by roughly 11⁄2% last year. 91 Q1 04 Q1 110 110 External price impulses to the Norwegian economy are Clothing and footwear expected to increase gradually in the years ahead. The 100 100 projections are based on a higher rise in export prices among 90 90 our trading partners. International producer prices have 80 80 started to rise, largely as a result of higher prices for oil and other commodities. Somewhat higher capacity utilisation is 70 70 Audiovisual also expected to push up inflation in other countries. As equipment 60 60 the shift in imports towards low-cost countries is expected to continue, the impact on Norway’s import prices will be 50 50 curbed. There is probably a potential for further growth in 1991 1993 1995 1997 1999 2001 2003 the share of imports from China and Central Europe where Sources: EcoWin and Norges Bank cost levels are low. This shift has reduced consumer prices for clothing and footwear in recent years (see Chart 4.7). 29
The international fall in prices for IT, telecommunications Chart 4.8 Indicator of external price impulses to and audiovisual equipment is expected to continue in the imported consumer goods measured in foreign next couple of years. Since the mid-1990s, prices for currency. Annual figures. 1995 20071) audiovisual equipment have dropped by an average 5.5% 3 3 annually in Norway. Consumer prices for these goods
2 2 have also fallen in other countries probably due to high productivity growth and strong international competition. 1 1
0 0 The projections are based on the assumption that the fall in prices for clothing, footwear and audiovisual equipment -1 -1 will continue over the next two years. However, there is -2 -2 little evidence to suggest that this trend will persist in the -3 -3 long term. Prices for these goods are therefore projected 1995 1997 1999 2001 2003 2005 2007 to increase more in pace with prices for other imported 1) Estimates for 2004 2007 consumer goods towards the end of the projection period. Overall, external price impulses are expected to edge up to Source: Norges Bank 3⁄4% in 2007 (see Chart 4.8).
Prices for imported consumer goods in the CPI-ATE are also affected by domestic conditions. On average, the cost of goods accounts for approximately half of the price for imported consumer goods. The remaining portion of the price paid by the consumer consists primarily of selling and distribution costs in Norway. The increase in these costs has probably been modest in recent years, due in part to strong productivity growth in the wholesale and retail sector. In many industries, mergers and chain store cooperation have resulted in lower purchasing costs and improved economies of scale for logistics and inventories.
The projections are based on the assumption that domestic cost inflation will gradually normalise. More normal productivity growth in the wholesale and retail sector will contribute to pushing up selling prices for Norway’s imported consumer goods.
Inflation report 2/2004 Exchange rate developments will push up Chart 4.9 Prices for imported consumer goods in the inflation CPI and in External Trade Statistics, and I-44. 4-quarter rise. Per cent. 98 Q1 04 Q2 In the period to spring 2005, the year-on-year rise in prices 10 10 for imported consumer goods is expected to move up rapidly as a result of the depreciation of the krone in 2003. 5 I-44 5 Changes in the krone exchange rate are reflected fairly 0 0 quickly in import prices as they are measured in External -5 -5 Trade Statistics (see Chart 4.9). These prices have increased Imported consumer goods in External Trade since last summer as a result of the depreciation of the -10 Statistics1) -10
krone through 2003. Experience shows that changes in the Imported consumer goods in CPI2) exchange rate are reflected in import prices approximately -15 -15 six months earlier than in consumer prices. Therefore, the 1998 2000 2002 2004 1) Norges Bank's estimates: Clothing and accessories, footwear, furniture, fall in prices for imported consumer goods was expected to food and beverages 2) Excluding audiovisual equipment and cars. Observations in April and May slow gradually from the beginning of 2004. Developments 2004 are used as the basis for the second quarter in the exchange rate through 2003 indicate that prices for Sources: Statistics Norway and Norges Bank imported consumer goods will continue to rise through 30 2004.
With the exchange rate assumptions underlying the analyses Chart 4.10 Contribution of the exchange rate to rise in Inflation Report 1/04, the exchange rate was projected in prices for imported consumer goods. Based on to make a significant positive contribution to consumer historical exchange rates and the forward exchange rate in Inflation Report 1/04 and 2/04. Percentage price inflation in 2005 and 2006. Measured by the import- points. Quarterly figures. 01 Q1 07 Q4 weighted index I-44, the krone is approximately 3% stronger 3 3 than at the beginning of March 2004. The forward exchange rate implies that the krone will remain virtually constant at 2 2 Inflation Report 1/04 the current level in the years ahead. The change in the krone 1 1 exchange rate implies in isolation that prices for imported 0 0 consumer goods will increase less in the years ahead than Inflation Report 2/04 projected in March (see Chart 4.10). -1 -1 -2 -2 Increased competition curbs inflation -3 -3 2001 2002 2003 2004 2005 2006 2007 Growth in the Norwegian economy has increased. The output gap is projected to be slightly negative this year Source: Norges Bank but to close in the period to 2005. Normally, costs will increase again when excess capacity is reduced. However, competition has intensified in a number of industries as a result of new entrants and changes in operating conditions. Growth in unit labour costs has fallen in the last year (see Chart 4.11 Labour costs per produced unit1) and domestic price inflation2). Rise on same period Chart 4.11), exerting downward pressure on prices for previous year. Per cent. Jun 80 May 04 domestically produced goods and services. It is assumed 16 16 that increased competition and rationalisation will result Labour costs per in stronger-than-normal growth in potential output in 2004. 12 produced unit 12
This scenario will contribute to continued subdued pressures 8 8 on prices for domestically produced goods and services for a period ahead. From 2005, we assume that potential output 4 4 will grow more in line with a historical trend. 0 0 Domestic inflation Long-term inflation expectations do not deviate -4 -4 1980 1984 1988 1992 1996 2000 2004 substantially from the inflation target 1) Labour costs in relation to gross product. Mainland Norway excl. the energy sector. 4-quarter moving average 2) Adjusted for tax changes and excluding energy products. Consumer price inflation has been below the inflation target Monthly figures since summer 2002. Inflation is now very low. Given the Sources: Statistics Norway and Norges Bank assumptions underlying the projections in this report, it will
Inflation report 2/2004 take some time before inflation reaches target. If inflation Chart 4.12 Expected consumer price inflation in 5 remains below target for a longer period, there is a risk that years. Per cent. Quarterly figures. 02 Q2 04 Q2 inflation expectations will become entrenched at too low a 4 4 level. This may in itself make it more demanding to bring inflation back to target. Employer Employee 3 organisations 3 organisations Inflation expectations can be measured in various ways. In the TNS Gallup expectations survey, various participants 2 Experts 2 are interviewed about their inflation expectations 1, 2 and 5 years ahead. The surveys suggest that inflation expectations 1 1 remain firmly anchored around the inflation target in the long term (see Chart 4.12). In the shorter term, economic 0 0 agents expect inflation to be somewhat lower than the Jun 02 Dec 02 Jun 03 Dec 03 Jun 04 inflation target of 21⁄2%. In the second quarter of 2004, both the expert panel and the social partners participating in the Source: TNS Gallup survey expected consumer price inflation to be below 2% one year ahead. At the two-year horizon, consumer price inflation is expected to increase somewhat, but still not 31 reach target (see Chart 4.13). See box on page 49 for a more detailed discussion of inflation expectations in Norway and Chart 4.13 Expected consumer price inflation in 2 in other countries. years. Per cent. Quarterly figures. 02 Q2 04 Q2 4 4 Low inflation curbs wage growth Employee organisations 3 3 Wage growth has declined from the high level prevailing for a number of years. Results from groups that have Experts completed wage negotiations in this year’s wage settlement 2 2 Employer suggest that average annual wage growth in 2004 will be organisations approximately 33⁄4% for all groups. 1 1 Higher growth in the Norwegian economy implies a 0 0 somewhat tighter labour market in the period ahead. This Jun 02 Dec 02 Jun 03 Dec 03 Jun 04 normally translates into higher wage demands. Expectations of continued low inflation may have the opposite effect. In Source: TNS Gallup this year’s wage settlements, the social partners probably assumed that consumer price inflation from 2003 to 2004 would be lower than the inflation target. Prior to the wage settlement, the Technical Reporting Committee on Income Settlements estimated CPI inflation at 1% in 2004, which Chart 4.14 Annual wage growth1) and unemployment 2) 3) probably contributed to curbing nominal pay increases. rate . Per cent. Annual figures. 1993 2007 Given the interest rate and exchange rate assumptions underlying the projections in this report, inflation is likely Annual wage growth 6 6 to be below target in both 2005 and 2006. This scenario will probably result in lower wage increases than if inflation 4 4 were expected to be close to 21⁄2%.
Unemployment rate 2 2 Unemployment as measured by the Labour Force Survey (LFS) is projected to fall to 4% in 2005. Annual wage growth is projected at 41⁄2% (see Chart 4.14). 0 0 Unemployment is expected to remain stable at 4% in 2006 1993 1995 1997 1999 2001 2003 2005 2007 and 2007. Nevertheless, wage growth is projected to be 1) Average for all groups. Including cost of additional vacation days 2) LFS somewhat higher in these years due to expectations of 3) Projections for 2004 2007 Source: Technical Reporting Committee on Income higher inflation. Settlements, Statistics Norway and Norges Bank
Inflation report 2/2004 The projections imply that real wages will show a fairly sharp Chart 4.15 Growth in real consumer wages and real rise (see Chart 4.15). The low rise in prices for imported producer wages1). Per cent. Annual figures. consumer goods will restrain CPI inflation, providing scope 1996 20072) 5 5 for a sharp rise in real wages while corporate profitability is Real consumer wages maintained. Prices for goods and services sold in Norway 4 4 are projected to increase more than the overall CPI. Real producer wages Compared with the rise in prices for Norwegian companies’ 3 3 products, wage growth is significantly lower and more in line with projected growth in productivity. 2 2 1 1 In connection with the 2004 wage settlement, the Government has indicated that it will table proposals 0 0 1996 1999 2002 2005 concerning compulsory occupational pensions this year, 1) Consumer price inflation for goods and services produced in including proposals for certain minimum standards that Norway is used as a deflator for real producer wages. The CPI is the deflator for real consumer wages will apply to all employees that do not already benefit 2) Projections for 2004 2007 from more favourable schemes. The impact on companies’ Source: Norges Bank costs is uncertain. An introduction of occupational pensions 32 that is not matched by lower wage increases may result in higher-than-projected labour cost growth.
Chart 4.16 Projections and uncertainty for the CPI- 4.3 Risks to the inflation outlook ATE1). 12-month rise. Per cent. Jan 01 Dec 07 5 5 The inflation projections are based on assumptions 30% 50% 70% 90% concerning forward interest and exchange rates, projections 4 4 for domestic price and cost developments and external price 3 3 impulses. There is considerable uncertainty surrounding these factors. There is also uncertainty associated with 2 2 our analyses of economic relationships. On the whole, the 1 1 upside and downside risks to the inflation projections are 0 0 considered to be balanced. Chart 4.16 shows the uncertainty surrounding the inflation projections, calculated on the -1 -1 basis of historical deviations between projected and actual 2001 2002 2003 2004 2005 2006 2007 1) The bands in the fan indicate different probabilities for CPI-ATE inflation. developments in the CPI-ATE. Probabilities are based on the difference between projected and actual developments in underlying inflation in the period 1997 2004 The krone exchange rate has fluctuated considerably in Sources: Statistics Norway and Norges Bank recent years and has contributed to fluctuations in inflation and the inflation projections. The appreciation of the krone exchange rate since the March report is the main reason that inflation is projected to be lower in the period ahead. In the period since the beginning of March, the krone exchange Chart 4.17 Changes in I-44. Daily figures. rate has changed considerably (see Chart 4.17). Exchange 1 Mar 04 24 Jun 04 rate expectations ahead, as implied by the forward exchange 100 100 rate, have also varied substantially. These fluctuations may be related to changes in the expected interest rate 98 98 differential between Norway and its trading partners, but other factors, such as changes in oil prices, have probably 96 96 also had an effect. 94 94 The inflation projections are sensitive to changes in the krone exchange rate. If developments in the krone exchange 92 92 rate differ from the assumptions in this report, the inflation Mar 04 Apr 04 May 04 Jun 04 outlook will be affected. If the krone depreciates to the level prevailing at the beginning of March, inflation is 1)A rising curve denotes a weaker krone exchange rate likely to return to target more quickly than projected in this Source: Norges Bank
Inflation report 2/2004 report. Similarly, a further appreciation of the krone would imply lower-than-projected inflation through the projection period.
The pass-through from the krone exchange rate to consumer prices is also uncertain. Our experience of how market participants set prices when monetary policy is based on inflation targeting is still fairly limited.
Monetary policy has been eased considerably since December 2002. Our experience of such considerable and rapid monetary policy easing and such a low nominal interest rate is limited. If the projections underestimate the effect of the stimulus on overall demand, capacity utilisation may increase more rapidly. A shortage of labour may then arise earlier than assumed and wage growth may be higher than projected. 33 On the other hand, manufacturing competitiveness and low inflation may be given greater emphasis in the wage negotiations than assumed. Wage growth may then be lower than projected.
Projections for developments in potential output are uncertain. If potential output increases less than assumed, inflation may rise more than projected. On the other hand, sharp growth in potential output may continue for several years. This will provide the basis for higher output without a rise in wage and price inflation.
The global upturn seems to have taken hold and may result in higher-than-expected inflation in other countries. This may lead to higher price impulses from our trading partners. A stronger global upturn may also boost demand for Norwegian export goods, resulting in higher-than- projected output growth.
The sharp increase in oil prices and other commodity prices partly reflects special factors such as unrest in the Middle East, but also higher demand. External price impulses may be stronger than assumed if the increase in oil prices and other commodity prices persists.
In 2004, the Chinese authorities have introduced measures to curb economic growth and prevent an overheating of the economy. If growth in China slows markedly, demand and commodity prices may fall. This may contribute to lower inflation in Norway as well. It is also possible that the shift towards imports from low-cost countries will be more substantial than assumed, so that import prices do not increase in line with our projections.
Inflation report 2/2004 5 Monetary policy assessments and strategy Chart 5.1 CPI. Moving 10-year average1) and Norges Bank’s operational conduct of monetary policy is variation2). 1979 20043). Per cent oriented towards low and stable inflation. The operational 14 14 target for monetary policy is annual consumer price 12 12 inflation of approximately 2.5% over time. 10 10 8 CPI 8 Monetary policy influences the economy with long and 6 Inflation target 6 variable lags. Norges Bank sets the interest rate with a view 4 4 to stabilising inflation at the target within a reasonable time horizon, normally 1-3 years. The more precise horizon will 2 2 depend on disturbances to which the economy is exposed 0 0 1979 1984 1989 1994 1999 2004 and how they will affect the path for inflation and the real 1) The moving average is estimated 7 years back, current year and 2 economy ahead. years ahead 2) The band around the CPI is the variation in the period, measured as +/- one standard deviation 3) Figures for 2002 2004 are based on projections Norges Bank operates a flexible inflation targeting regime, Sources: Statistics Norway and Norges Bank 34 so that both variability in output and employment and variability in inflation are given weight. Chart 5.1 shows that the average inflation rate, measured by the consumer price index (CPI), fell through the 1980s and 1990s. Over Chart 5.2 Projections for the output gap, level1)and time, movements in the CPI will coincide with movements variation2). 1979 2004. Per cent in underlying inflation (CPI-ATE). The grey area in the 8 8 chart illustrates inflation variability, primarily based on the 6 6 degree of variation in previous years. The chart shows that 4 4 inflation has varied less over the past decade than previously. 2 2 When monetary policy is oriented towards stabilising 0 0 inflation around the target, inflation variability may also -2 -2 be low in the period ahead. Developments in the output -4 -4 gap1 provide a basis for assessing output stability. Chart -6 -6 5.2 illustrates that output variability has been moderate -8 -8 1980 1985 1990 1995 2000 over the past decade compared with variability at the end 1) The output gap measures the difference between actual and trend mainland GDP of the 1980s and beginning of the 1990s. Flexible inflation 2) The band shows the variation in the output gap measured as + one standard deviation. The variation is estimated as average standard targeting may contribute to continued low variability in the deviation in a 10-year period, 7 years back, current year and 2 years output gap, but variability in both inflation and output also ahead depends on the magnitude of the disturbances to which the Sources: Statistics Norway and Norges Bank economy is exposed.
The projections for developments in inflation and output have changed somewhat since the March Inflation Report Chart 5.3 Projections for the CPI-ATE1) and the (see Chart 5.3). In both reports the projections are based output gap2) in Inflation Report 1/04 (red) and 2/04 (green). Per cent on a technical assumption of an interest rate in line with 3 3
forward interest rates and a krone exchange rate in line CPI-ATE with the forward exchange rate (see Charts 5.4 and 5.5). 2 2 IR 1/04 Financial market participants expect a less expansionary 1 IR 2/04 1 monetary policy in the period ahead than four months ago. This is reflected in changes in the forward interest 0 0 rate curve and forward exchange rate since March. The projections for wage growth have been revised downwards -1 Output gap -1
somewhat. Combined with the assumption of a stronger -2 -2 krone exchange rate, this has contributed to a downward 2002 2003 2004 2005 2006 2007 revision of the inflation projections for 2005 and 2006 1) CPI-ATE: CPI adjusted for tax changes and excl. energy products 2) The output gap measures the difference between actual and trend compared with the last Inflation Report. Overall, the mainland GDP 1 See box on page 46 for a further discussion of the calculation method and Sources: Statistics Norway and Norges Bank interpretation of the concept.
Inflation report 2/2004 projections for the output gap for the period ahead have not been changed to any considerable extent. See box on page Chart 5.4 Assumption for the money market rate1). 51 of this report for a further discussion of changes in the 2) Forward interest rate . Monthly figures. Per cent projections. 10 10
3-month money 8 market rate 8 If interest rates and the exchange rate move in line with forward interest rates and the forward exchange rate, 6 Forward rate 24 June 6 (assumption IR 2/04) inflation may pick up through the projection period, but 4 4 will be below target throughout the period up to summer 2007 according to the projections. The output gap, as 2 Forward rate 4 March 2 (assumption IR 1/04) measured here, will be marginally positive in 2005-2007. If 0 0 the sight deposit rate is kept unchanged for a longer period 2001 2002 2003 2004 2005 2006 2007 than indicated by forward interest rates, inflation may reach 1) The money market rate is normally about 1⁄4 percentage point higher than the sight deposit rate the target earlier. 2) 3-month money market rate up to May 2004. The 3-month forward rate is estimated using four money market rates and four government bond yields with different maturities as observed on 4 March and 24 June Source: Norges Bank 5.1 Monetary policy since 11 March
As a result of the prospect of low inflation and moderate 35 growth in output and employment, the key rate (the sight deposit rate) was reduced by a total of 5.25 percentage points between December 2002 and March 2004. Inflation Chart 5.5 Assumption for the krone exchange rate has been substantially lower than the inflation target for (I-44)1). Forward exchange rates. Monthly figures a long period. The year-on-year rise in the CPI-ATE 110 110 gradually slowed from summer 2002 to February 2004, when it reached its lowest level at -0.1%, but has since risen Forward rate 4 March (assumption IR 1/04) to 0.1% in May. The key rate has been 1.75% since March. 100 100 Monetary policy is aimed at higher inflation.
Forward rate 24 June (assumption IR 2/04) 90 90 Strategy Document 1/04 and monetary policy meeting on 11 March Import-weighted exchange rate, I-44 On the basis of analyses in Strategy Document 1/04, the 80 80 Executive Board judged in March that a sight deposit rate 2001 2002 2003 2004 2005 2006 2007 in the interval 11⁄4-21⁄2% would be appropriate at the end of 1)A rising curve denotes a weaker krone exchange rate June 2004 (see Chart 5.6). The interval was conditional on Source: Norges Bank projections for economic developments in Inflation Report 1/04.
The projections in Inflation Report 1/04 were based on a Chart 5.6 Interval for the sight deposit rate at the end technical assumption that the interest rate would move in of each strategy period and actual developments. line with forward interest rates observed at the beginning Daily figures. 1 Nov 02 1 July 04 of March (see Chart 5.4). This implied a fall in the key rate towards 11⁄2% by the summer and thereafter a gradual 8 Strategy period 3/02 8 7 7 increase. The krone was assumed to shadow the forward 6 6 exchange rate, indicating a virtually unchanged exchange Strategy period 1/03 rate in the years to 2006 (see Chart 5.5). A path in line 5 5 Strategy period 2/03 with forward interest and exchange rates implied that 4 4 Strategy period 3/03 inflation would increase in the period ahead and reach 3 3 Sight deposit rate 21⁄2% in spring 2006. The projections entailed pronounced 2 2 economic growth, with the output gap turning marginally 1 Strategy period 1/04 1 positive from 2005. 0 0 Nov 02 Mar 03 Jul 03 Nov 03 Mar 04 Jul 04 Such economic developments would not be contrary to Source: Norges Bank the requirements as to a sound monetary policy. It would provide a reasonable balance between the objective of
Inflation report 2/2004 reaching the inflation target and stable developments in the real economy. It was also emphasised that interest rate developments abroad might have a considerable impact on the krone and that the inflation outlook in Norway implied that Norges Bank would not be the frontrunner when other countries raised interest rates.
In keeping with the analysis in Strategy Document 1/04, Norges Bank reduced the key rate by 0.25 percentage point to 1.75% on 11 March. It was also stated that "with a sight deposit rate of 1.75 per cent at present, the probability that inflation two years ahead will be lower than 21⁄2 per cent is greater than the probability that it will be higher”. As an alternative, the Executive Board considered leaving the interest rate unchanged and the possibility of keeping the interest rate low for a longer period than otherwise. However, the Executive Board concluded that it would not 36 be appropriate – in the light of the decline in inflation in previous months – to deviate markedly from expectations in money and foreign exchange markets.
Monetary policy meeting on 21 April Chart 5.7 Import-weighted krone exchange rate1), sight deposit rate and 3-month interest rate Measured by the import-weighted index I-44, the krone differential against trading partners. Daily figures. appreciated by about 31⁄2% between the monetary policy 1 Jan 02 24 Jun 04 meeting on 11 March and the monetary policy meeting on 85 8 21 April (see Chart 5.7). In March, the year-on-year rise in I-44 (left-hand scale) the CPI-ATE was 0.3%. According to preliminary figures 90 6 from Statistics Norway, mainland GDP growth in the fourth 95 4 quarter of 2003 was in line with the projections in Inflation 100 3-month interest rate 2 Report 1/04. differential (right- Sight deposit rate hand scale) (right-hand scale) 105 0 At the monetary policy meeting on 21 April, the Executive Board considered as alternatives either reducing the interest 110 -2 rate by 0.25 percentage point or keeping the interest rate 2002 2003 2004 unchanged and await additional information before any 1)A rising curve denotes a stronger krone exchange rate further reduction of the interest rate. In Strategy Document Source: Norges Bank 1/04, it was noted that subdued price impulses both in Norway and internationally, coupled with the appreciation of the krone since the previous monetary policy meeting, were factors that supported a further easing of monetary policy. However, themes in the foreign exchange market shift, and Norges Bank does not have instruments to fine- tune the exchange rate. Nevertheless, a reduction in the key rate might partly have offset the tightening which a stronger exchange rate represented.
However, a number of factors indicated that we should await additional information before any further reduction of the interest rate. New information since the previous monetary policy meeting confirmed that activity in both the Norwegian and global economy was picking up. Inflation had stabilised and in March was slightly higher than projected in Inflation Report 1/04.
Inflation report 2/2004 The Executive Board concluded that it was appropriate to keep the key rate unchanged at its meeting on 21 April. At the same time, it was stated that "with a sight deposit rate of 1.75 per cent at present, the probability that inflation two years ahead will be lower than 21⁄2 per cent is greater than the probability that it will be higher”. The Executive Board weighed the objective of bringing inflation back to target and stabilising inflation expectations against the risk that output growth might eventually be too high.
Monetary policy meeting on 26 May The krone appreciated further in the period prior to the monetary policy meeting on 26 May. Expectations of persistently high oil prices were an important factor behind the krone appreciation through the spring. The appreciation was probably also influenced by expectations in financial markets that interest rates would increase to a greater extent 37 in Norway in 2005 and 2006 than in other countries. The rise in prices in April confirmed the projections in Inflation Report 1/04.
At the monetary policy meeting on 26 May, the Executive Board concluded that it was appropriate to keep the key interest rate unchanged. Moreover, it was stated that "with a sight deposit rate of 1.75 per cent at present, the probability that inflation two years ahead will be lower than 21⁄2 per cent is greater than the probability that it will be higher". As an alternative, the Executive Board considered reducing the key rate by 0.25 percentage point.
As was the case with the monetary policy meeting in April, developments in the krone exchange rate supported a further easing of monetary policy (see Strategy Document 1/04). On the other hand, monetary policy was already generating a strong stimulus to the Norwegian economy. There were signs that demand and output were picking up at a somewhat faster pace than projected in Inflation Report 1/04. Monetary policy influences the economy with long and variable lags. We have limited experience of the effects of such a low nominal interest rate level abroad and in Norway.
In the press release it was also stated that when inflation gradually increases from a very low level, this might provide a basis for gradually moving towards a more normal short-term interest rate level in Norway. This might counter excessive credit growth and excessive pressures on domestic resources in the medium term. In line with Strategy Document 1/04, it was also stated that interest rate developments abroad might have a considerable influence on movements in the krone exchange rate and that the inflation outlook in Norway implied that Norges Bank would not be the frontrunner when interest rates are increased in other countries.
Inflation report 2/2004 5.2 Monetary policy assessments and strategy ahead Chart 5.8 Forward interest rates. Monthly figures. Sections 1-4 provide projections for inflation and the real Per cent. Jan 04 Dec 07 economy in the period to end-2007 based on forward 6 6 interest rates. Against the background of the analyses in Sections 1- 4, the Executive Board of Norges Bank approved 5 5 a monetary policy strategy for the period from 1 July to
the beginning of November at its meetings on 8 and 9 June 4 Forward rate trading 4 and 1 July. This section presents the Executive Board’s partners1) assessments and monetary policy strategy. 3 3
2 24 June 2 Forward interest rates have increased since the March Norwegian forward 4 March interest rate Inflation Report and Strategy Document (see Chart 5.4). 1 1 They are in line with market expectations that the sight 2004 2005 2006 2007 2008
deposit rate will rise to 2% towards the end of the year and 1) Estimated as a weighted average of the forward rates for the euro further to 21⁄4% in the first quarter of 2005. Forward interest area, the US, Sweden and the UK Source: Norges Bank rates indicate expectations that the key rate will rise to 38 around 5% towards the end of 2007.
Since the March Inflation Report was published, the krone, as measured by the import-weighted index I-44, has appreciated by around 3%. The forward exchange rate is 3-4% stronger through the projection period than in the last Strategy Document and Inflation Report (see Chart 5.5). The forward exchange rate is approximately unchanged up to the end of 2007.
Chart 5.8 shows that the forward interest rates of our trading partners have also increased since March, but not as much as Norwegian rates. Forward interest rates indicate that the market expects short-term interest rates in Norway to be higher than the average of our main trading partners from 2006.
Inflation is very low. It has been lower than the inflation target since autumn 2002. The aim of monetary policy is higher inflation. The monetary policy stance is therefore expansionary. With the low level of inflation, it is appropriate to be particularly vigilant with regard to developments in consumer prices. However, consumer prices may show Chart 5.9 Projections for CPI-ATE1) and the output erratic variations from one month to the next. Several gap2). Per cent monthly observations show that inflation so far is consistent 3 3 with the projections in Inflation Report 1/04. This summer CPI-ATE 2 2 and autumn, we will receive further confirmation of whether consumer prices are rising as expected. Monetary 1 1 policy also places emphasis on avoiding imbalances in the real economy. 0 0
-1 Output gap -1 If interest rates and the exchange rate move in line with forward interest rates and the forward exchange rate, -2 -2 inflation may pick up through the projection period, but 2002 2003 2004 2005 2006 2007 1) CPI-ATE: CPI adjusted for tax changes and excluding energy will be below target throughout the period up to summer products 2007 according to the projections (see Chart 5.9). The 2) The output gap measures the difference between actual and trend mainland GDP output gap, as estimated here, will be marginally positive Sources: Statistics Norway and Norges Bank in 2005-2007.
Inflation report 2/2004 Credit developments are still providing ambiguous signals for interest rate setting. Growth in household borrowing is strong, while enterprises are reducing debt. All in all, the financial stability outlook is satisfactory. However, high debt growth makes households more vulnerable to economic disturbances (see box on page 43).
Given the assumptions underlying the projections in this report, inflation will be somewhat lower than the inflation target in the period to autumn 2006. Capacity utilisation in the economy is rising, but the output gap, as estimated here, will only be marginally positive during the period.
Monetary policy should be aimed at increasing inflation at a somewhat faster pace than projected in this report. A more expansionary monetary policy ahead than that indicated by forward interest rates and the forward exchange rate may contribute to this. A more expansionary monetary policy can be implemented either by reducing the interest rate 39 in the strategy period or by keeping the interest rate at its current level for a longer period than indicated by forward rates.
The monetary policy easing in the period December 2002- March 2004 is generating a fairly strong stimulus to the Norwegian economy. Monetary policy influences the economy with long and variable lags. There is considerable uncertainty as to how strong growth in the Norwegian economy will be and the inflationary impulses associated with demand growth. Moreover, with very high oil prices, the effect of a given interest rate reduction on the krone exchange rate may be less than normal.
Instead of reducing the interest rate further, the key rate should therefore be kept unchanged for a longer period than indicated by forward rates. This will contribute to higher inflation through the latter part of 2005 and in 2006, allowing inflation to return to target more quickly than projected in this report. The output gap in the next two years may then be somewhat more positive than projected in this report.
Such an interest rate path may provide a better balance between the objective of reaching the inflation target and stability in the real economy than a path based on forward interest rates and the forward exchange rate.
Interest rate setting should take into account that international interest rate developments will have an impact on inflation in Norway via the exchange rate. If interest rates in Norway are increased at an earlier stage than other countries, the krone might appreciate and have a dampening impact on inflation. A rise in international interest rates during the strategy period, coupled with unchanged Norwegian rates, may contribute to a weaker krone. This will make it easier to achieve the inflation target.
Inflation report 2/2004 Exchange market interventions, either by buying or selling foreign currency, are not suitable as an instrument for influencing the krone exchange rate over a longer period. If exchange market interventions took place instead of changing the interest rate, foreign exchange market participants may be given ambiguous signals, and a game situation may arise. However, interventions may be appropriate if the krone exchange rate differs substantially from what is reasonable on the basis of fundamentals, and exchange rate movements also reduce the prospect of achieving the inflation target.
High oil prices have resulted in higher transfers to the Petroleum Fund than estimated earlier. This has given rise to a need to resume purchases of foreign currency to cover higher transfers to the Petroleum Fund. At the same time, 40 this will smooth the effect of higher payments of petroleum taxes on the foreign exchange market.
According to the Taylor rule, the interest rate is set with a view to keeping inflation around a specific target over time, Chart 5.10 3-month money-market rate1), Taylor at the same time that the interest rate shall contribute to rate, forward interest rates for trading partners and stabilising output. The rule can be used as a cross-check Norway at 24 June. Monthly figures. Jan 01 Dec 04 for interest rate setting. Chart 5.10 shows the interest rate 10 10 that follows from the Taylor rule given our projections 3-month rate, Norway for inflation and the output gap. The chart also shows 8 8 Norwegian forward interest rates and forward interest rates 6 6 for our main trading partners. The Taylor interest rate is Taylor rate now about 1 percentage point above the current rate and 4 4 2 2 higher than forward rates throughout the projection period. Forward rates for trading partners Norwegian forward rate 0 0 According to this rule, the interest rate should be increased 2001 2002 2003 2004 this summer. The increase is ascribable to an expected 1) The money market rate is normally about 1⁄4 percentage point pick-up in both inflation and output growth over the year. higher than the sight deposit rate According to the rule, the nominal interest rate should Sources: Statistics Norway and Norges Bank increase so that the real interest rate also increases gradually when inflation rises. However, the Taylor rule does not take into account that inflation is influenced via the interest rate differential against other countries and the exchange rate, and therefore has limitations as a reference for a small, open economy. An interest rate path in line with the Taylor rule would have increased the likelihood of a substantial appreciation of the krone and hence persistently low inflation.
The interest rate should be assessed regularly on the basis of new information emerging during the strategy period that is of significant importance for the outlook for inflation and output. With the low level of inflation, it is appropriate to be particularly vigilant with regard to developments in consumer prices. The following factors that may delay a rise in inflation should be given particular weight:
Inflation report 2/2004 • An appreciation of the krone may bring inflation further below target at the one to three year horizon. Any interest rate reactions must be based on an analysis of the background for exchange rate movements and an assessment of the duration of the exchange rate change. • Lower-than-expected inflation in the strategy period may indicate that inflation may also be lower than projected in the longer term. Any interest rate reactions must be based on an analysis of the background for low inflation and an assessment of the duration. • A pronounced fall in long-term inflation expectations will increase the risk of persistently low inflation. • Lower global inflation and growth, and hence a lower-than-expected rise in interest rates abroad, may lead to a stronger krone and lower imported inflation. 41
On the other hand, uncertainty concerning the effects of earlier monetary policy easing and the unusually low interest rate imply that we should exercise caution with regard to further interest rate reductions. The possible effects on expectations concerning future interest rate developments must also be carefully assessed.
Other factors may imply that the inflation target can be achieved earlier than projected:
• A depreciation of the krone exchange rate will contribute to higher inflation. With the current low level of inflation, Norges Bank will exercise caution with regard to increasing the interest rate in this situation. • Substantially higher-than-projected inflation through the strategy period may indicate that inflation will also be higher than projected ahead. Monetary policy has had an expansionary effect over a longer period and growth in the Norwegian economy may be stronger than assumed. This may result in higher-than-projected inflation. • Stronger-than-expected global inflation and growth, and hence a swifter rise in interest rates abroad may contribute to a weaker krone and higher imported inflation.
However, with the prospect of continued low inflation for a period ahead, wide deviations from projected economic developments would be required before the interest rate should be increased.
There is nevertheless considerable uncertainty surrounding economic developments over the next months. The interval for the sight deposit rate at the end of the strategy period
Inflation report 2/2004 should reflect this. Norges Bank’s projections for economic developments imply a sight deposit rate in the interval 11⁄4- 21⁄4% at the beginning of November 2004.
The Executive Board’s approved strategy • Norges Bank’s operational conduct of monetary policy is oriented towards low and stable inflation. The operational target for monetary policy is annual consumer price inflation of approximately 2.5% over time. • Monetary policy influences the economy with long and variable lags. Norges Bank sets the interest rate with a view to stabilising inflation at the target within a reasonable time horizon, normally 1-3 years. The more precise horizon will depend on disturbances to which the economy is exposed and how they will affect the path for inflation and the 42 real economy ahead. • The interest rate will normally be changed gradually so that we can assess the effects of interest rate changes and other new information about economic developments. • With financial market confidence in the inflation target, Norges Bank has greater scope for promoting stability in the real economy than would otherwise be the case. This scope will increase as the inflation target is incorporated as an anchor for wage formation. • With the current low level of inflation, Norges Bank will be particularly vigilant with regard to developments in consumer prices. • There is considerable uncertainty concerning economic developments over the next months. Norges Bank’s projections for economic developments imply a sight deposit rate in the interval 11⁄4 - 21⁄4 % at the beginning of November 2004. • Developments in the krone exchange rate have an influence on inflation. Any interest rate reactions must be based on an analysis of the background for exchange rate movements and an assessment of the duration of the exchange rate change. If the krone appreciates substantially, this may provide a basis for considering an interest rate at the lower end of, or below, the interval. Uncertainty concerning the effects of previous monetary policy easing and the unusually low interest rate imply, on the other hand, that we should exercise caution with regard to further interest rate reductions. Similarly, there is a basis for considering an interest rate at the upper end of the interval, or higher, if the krone were to depreciate substantially. However, with the prospect of continued low inflation for a period ahead, wide deviations from projected developments would be required before the interest rate should be increased.
Inflation report 2/2004 Financial stability
Financial stability implies that the financial system On the whole, the short-term outlook for financial is robust to disturbances in the economy and can stability is satisfactory, and somewhat better than channel capital, execute payments and redistribute six months ago. The low interest rate level has risk in a satisfactory manner. Financial instability made it easier for households and enterprises to will often have consequences for economic service debt. However, it is important that long- developments and inflation. Analyses of the term investments are not based on the assumption financial stability outlook are therefore included in that interest rates will remain low over the life of the the basis for interest rate decisions. loan. For a more detailed analysis of the financial stability outlook, see Financial Stability 1/2004 and Growth in total credit (C3) has declined in recent the Annual Report on Payment Systems 2003. months, and is now approximately in line with growth in the Norwegian economy. Enterprises 4433 are still reducing their debt, while household debt is growing rapidly and far more rapidly Chart 1 Household debt burden1). Quarterly figures. than their income (see Chart 1). This increases 87 Q1 06 Q42) the vulnerability of households to economic 180 180 disturbances and is an element of uncertainty with 170 170 respect to economic developments. At the same 160 160 time, the shift to a flexible inflation targeting 150 150 monetary policy regime has reduced the risk of 140 140 a sharp, simultaneous increase in interest rates 130 130 and unemployment. The sharp rise in the value of 120 120 dwellings in recent years is one of the main factors 110 110 behind growth in household debt. After falling in 100 100 1987 1991 1995 1999 2003 the spring of 2003, house prices rose sharply in the 1) Loan debt as a percentage of disposable income less the return on insurance claims. In the projection it is assumed that debt latter half of the year. However, the rise in house growth gradually slows and is in line with growth in disposable prices has decelerated this year. income in 2006 2) Projections for 2003 2006 Source: Norges Bank The fall in interest rates and stronger economic growth have increased enterprises’ debt servicing capacity. Corporate profitability improved between 2002 and 2003 as a result of increased turnover, Chart 2 Number of bankruptcies, number of rationalisation, lower interest expenses and a weaker employees in bankrupt entities and total market krone exchange rate. Enterprises that rent out office value. Seasonally adjusted index. 98 Q4 = 100. 98 Q4 04 Q1 premises have been vulnerable in recent years as a result of falling rental income and property values. 350 350 300 300 Other types of property enterprises have recorded Market value higher earnings. The number of bankruptcies has 250 250 fallen from the peak in the second quarter of 2003. 200 Number 200 Measured in terms of market value, the bankruptcy employed 150 150 peak was reached in the latter half of 2002 (see 100 Number of 100 Chart 2). bankruptcies 50 50 Bank profits improved somewhat from 2002 to 0 0 2003, with a further improvement in the first 1998 2000 2002 quarter of this year. Banks’ securities earnings have Sources: Statistics Norway and Norges Bank increased, and loan losses and operating expenses have declined. On the other hand, the fall in interest rates has reduced banks’ net interest income.
Inflation report 2/2004 44
Boxes
Inflation report 2/2004 Overview of boxes in Inflation Reports 2000-2004 2 / 2004 Recent price developments 1 / 2002: Increase in number of working days in 2004 Evaluation of Norges Bank’s projections for 2000 Financial stability Wage growth (*) Norges Bank’s estimate of the output gap Have Norges Bank’s interest rate decisions A change in inflation expectations? been anticipated? Preliminary evaluation of the projections in Inflation Report 1/04 3 / 2001: What are the factors behind the rise in oil futures Consumer price inflation adjusted for changes in prices? real taxes and energy prices Why has the rise in prices for imported consumer 1 / 2004: goods been low? Low external price impulses to the Norwegian Uncertain oil prices and pressure on OPEC economy Growth potential of the Norwegian economy The pass-though from the krone exchange rate to prices for imported consumer goods (*) 2 / 2001: 4455 The effects of the reduction in interest rates on New regulation on monetary policy household income Underlying inflation The exchange rate for the krone and exchange rate Assessment of risks to the inflation projection expectations Effects of a sharper slowdown in the global economy
3 / 2003: 1 / 2001: Direct effects of interest rates on house rents (*) What are the effects on Europe of a cyclical downturn Imbalances in the US in the US? Assumptions concerning the exchange rate The impact of interest rates on private consumption Flexible inflation targeting and indicators of pressures (*) in the real economy 4 / 2000: 2 / 2003: Price developments in Norway, Sweden and the Low growth in consumer prices euro area Evaluation of inflation reports in inflation-targeting Effects of a change in interest rates (*) countries Uncertainty associated with the inflation projections Why is household debt growth remaining high? Evaluation of Norges Bank’s projections for 1999 Levels of real capital in enterprises still too high? 3 / 2000: 1 / 2003: Low price inflation for imported consumer goods Factors behind developments in the exchange rate (*) Which factors influence the krone exchange rate? The output gap Interest rates and expectations Imported price inflation and the exchange rate – the UK experience 2 / 2000: Evaluation of Norges Bank’s projections for 2001 and Consumer confidence indicator 2002 Underlying consumer price inflation Continued low price and cost inflation in the euro area 3 / 2002: Household net investments in financial assets The Scandinavian model of inflation – revisited (net lending)
2 / 2002: 1 / 2000: Why has the krone exchange rate appreciated New aspects of economic developments New expectations survey Output gap in the years ahead Why have clothing prices fallen? The impact of higher oil prices (*) = Boxes with special discussion of the effects How does the krone exchange rate influence the CPI? of monetary policy and the functioning of the economy (*)
Inflation report 2/2004 Norges Bank's estimate of the output gap
The output gap is a measure of the difference We adjust the HP calculations in the light of between actual output and the level of output information about conditions that affect the that over time is consistent with stable inflation. supply side in the Norwegian economy. We have, The level of output that is consistent with for example, adjusted for additional vacation days stable inflation is often called potential output.1 and changes in estimated underlying productivity Potential output – and hence the output gap growth. These conditions are immediately – cannot be observed and must be estimated. reflected in potential output, but only gradually affect the estimate for potential output when the Potential output will over time rise in pace with HP filter is applied mechanically. For 2004, we productivity growth, labour force developments have revised trend growth upwards from 21⁄2% and other conditions affecting production capacity to 3% because underlying productivity growth in the economy. In principle, potential output can seems to be stronger than normal. change abruptly, for example as a result of shifts 46 in the labour supply or in productivity. Some Calculations based on quarterly figures may shifts are easily identifiable, such as shorter in principle provide better information about working hours introduced in 1987 and the cyclical turnarounds than calculations based additional vacation days in 2001 and 2002, but on annual figures. Quarterly GDP figures are, most changes in potential output are difficult to however, more variable also when adjusted estimate. In practice, trend output growth is often for seasonal variations. Chart 1 shows Norges estimated, which involves a certain “smoothing” Bank’s estimates of the output gap along with a of potential output. calculation based on the HP filter and seasonally adjusted quarterly figures.2 The cyclical The output gap referred to in Norges Bank’s movements and effects are relatively similar, but Inflation Report represents the Bank’s the quarterly figures fluctuate considerably from overall assessment of resource utilisation in one quarter to the next. the Norwegian economy. The basis for the assessment is a technical calculation of trend We assess developments in the estimated output GDP for mainland Norway based on annual gap against other indicators of resource utilisation figures. The trend can be calculated in a number of ways. Norges Bank uses a Hodrick-Prescott Chart 1 Estimates of the output gap1). Annual and (HP) filter (see box in Inflation Report 1/03). quarterly figures. 1980 2004. Per cent The HP method assumes that it is possible to decompose a time series into a trend component 6 6 Quarterly figures and a cyclical component. When using the HP 4 4 method, a parameter must be chosen to measure the degree of variabilty in trend output, i.e. how 2 2 smooth the trend should be. Norges Bank’s 0 0 application of the method allows gradual changes -2 -2 in trend output. Short-term fluctuations are assumed to reflect cyclical variations in demand -4 Annual figures. -4 and do not affect estimated trend growth. -6 -6 1980 1985 1990 1995 2000 2005
The technical calculations only provide a basis 1) The output gap measures the difference between actual and for Norges Bank’s estimate of the output gap. trend mainland GDP Sources: Statistics Norway and Norges Bank 1 Theoretical studies often define potential output as the output level as it would have been if prices and wages had been completely flexible (see for example Gali (2002)). Since most prices and wages are rigid in the short term, the output gap will widen if demand increases more than assumed 2 We set the "smoothing parameter” at 100 for annual figures. For quarterly when price contracts and wage agreements were signed. Prices and wages figures, we use set the "smoothing parameter” at 20000. The GDP series will, however, increase over time as new contracts and agreements take have been extended using estimates to reduce the problem of uncertainty the increased demand into account. The output gap will then be reduced. with regard to the trend towards the end of the calculation period, cf. box In the long run, prices and wages will adjust and actual output will be the in Inflation Report 1/03. Both HP-calculations have been adjusted in line same as potential output. with the discussion above.
Inflation report 2/2004 in the economy (see box in Inflation Report 3/ with or slightly lower than the level in the years 03). These key indicators include wage growth, 1995-1997, before cost inflation accelerated. labour force participation rate, employment rate Norges Bank now estimates the output gap at - and unemployment. Wage growth can be an 3⁄4% in 2003 and -1⁄4% in 2004. indicator of the social partners’ perception of employment and labour shortages. Chart 2 shows There are many technical methods other than the the output gap and a wage gap. The wage gap is HP filter for calculating the output gap. Norges calculated as the difference between the rise in Bank uses several of these methods in its work.4 hourly labour costs in manufacturing in Norway Charts 4 and 5 show Norges Bank’s estimates and among trading partners up to and including for the output gap and calculations based on the 2000. The wage gap is thereafter defined as the following methods: deviation in wage growth from 4.5%. There is a strong correlation between the wage gap and the • Band-pass filter5 This filter assumes that an output gap. Chart 3 shows an employment gap economic time series can be decomposed based on the employment rate.3 There is also into long-term movements (trend growth), a strong correlation between this gap and the medium-term movements (business output gap. cycles) and short-term fluctuations such as seasonal variations and random 4477 Overall, the calculations show that resource movements. The filter removes the long utilisation in the Norwegian economy has and very short movements in a data series declined from a high level. It is now on a par to isolate the cyclical movements.
Chart 2 Estimates of the output gap1) and the wage • Unobserved components method (UC)6 gap2). Annual figures. 1992 2004 This method is based on a statistical 6 6 model for the trend component, the 4 4 cyclical component, the seasonal component (if using quarterly figures) 2 2 and random movements. The components Wage gap 0 0 are estimated using the Kalman-filter.
-2 Output gap -2 The model thus determines how smooth -4 -4 the trend should be. The HP filter may be regarded as a special form of this -6 -6 method. 1992 1994 1996 1998 2000 2002 2004 1) Mainland Norway. Per cent 2) Difference between rise in hourly labour costs in manufacturing • Production function method7. This in Norway and among trading partners up to and including 2000. Thereafter wage growth in manufacturing as a deviation from 4.5 method is used to calculate trend output per cent Sources: Statistics Norway and Norges Bank as a function of trend levels for labour, capital and total factor productivity. Chart 4 shows OECD estimates of the output Chart 3 Estimates of the output gap1) and the gap based on this method. employment gap. Annual figures. 1980 2004. Per cent. The various calculations show the same main 6 6 movements in the business cycle as Norges Employment gap Bank’s estimates of the output gap.8 There is 4 4 some difference in the impact on the business 2 2 cycle, however. The calculations based on the 0 0 UC method and the Band-pass filter suggest that
-2 -2 Output gap 3 The employment rate measures the number employed as a percentage -4 -4 of the population aged 16-74. The employment gap has been estimated using an HP filter on annual figures. -6 -6 4 See Bernhardsen, Eitrheim, Jore and Røisland (2004). 1980 1984 1988 1992 1996 2000 2004 5 See for example Baxter and King (1999). 6 1) Mainland Norway See for example Harvey and Jaeger (1993), Bjørnland (2002, section 2.5) and Bjørnland (2002, section 4). Sources: Statistics Norway and Norges Bank 7 See Frøyland and Nymoen (2000) and Giorno, Richardson, Roseveara and Nord (1995).
Inflation report 2/2004 resource utilisation in the Norwegian economy to distinguish between supply-side and demand was lower in 2003 than at the beginning of the shocks. 1990s. This is not supported by other indicators of resource utilisation. Estimates of the output gap in the economy will always be uncertain, and must be based on a Norges Bank is working to enhance its estimates considerable degree of professional judgement of the output gap. We are, for example, developing even if the methodology is improved. Norges more comprehensive models where information Bank places emphasis on providing information about output is supplemented by information about the methods used and the professional concerning inflation and employment. This may judgement exercised. provide a better basis for the estimated output gap in relation to other indicators of resource utilisation. This may be particularly useful towards the end of the period, when uncertainty References: in relation to the HP-based calculations is at its highest. These methods will also make it easier Baxter, M. and R. King (1999): “Measuring business cycles: approximate band-pass filters for economic time series”. Review of Economics and Statistics 81, pp 575- 48 593. Chart 4 The output gap1). Norges Bank's estimates and estimates based on the production function method. Annual figures. 1980 2004. Per cent Bernhardsen, T., Ø. Eitrheim, A. S. Jore and Ø. Røisland (2004): “Real time data for Norway: challenges for 6 6 monetary policy”. Bundesbank Discussion Paper Series, to Norges Bank's 4 estimates 4 be published in autumn 2004. The article is also available on Norges Bank’s website, www.norges-bank.no 2 2
0 0 Bjørnland, H. (2000): “Detrending methods and stylized facts of business cycles in Norway - an international -2 -2 comparison”. Empirical Economics 25, 369-392. -4 -4 Production function -6 -6 Bjørnland, H. (2002): “Moderne konjunkturforskning i 1980 1984 1988 1992 1996 2000 2004 et historisk lys. Er konjunktursvingninger like reelle som før?” (Modern business cycle research in an historical 1) Mainland Norway Sources: Statistics Norway, OECD Economic Outlook perspective. Are cyclical fluctuations as real as they used no. 75 and Norges Bank to be?). Speech given at the 24th research meeting for Norwegian economists, 7 January 2002.
Chart 5 The output gap1). Norges Bank's estimates Gali, J. (2002): “New perspectives on monetary policy, and estimates based on the UC method and the inflation and the business cycle”. band-pass filter. Annual figures. 1980 2004. Discussion paper no. 3210, Centre for Economic Policy Per cent Research (CEPR). (http://www.enpc.fr/ceras/thoenig/ 6 6 GALI.pdf).
4 Norges Bank's 4 estimates Harvey, A. C. and A. Jaeger (1993): “De-trending, stylized 2 2 facts and the business cycle”. Band-pass Journal of Applied Econometrics 8, 231-247. 0 0 -2 -2 Frøyland, E. and R. Nymoen (2000): ”Produksjonsgapet UC -4 -4 i norsk økonomi – ulike metoder, samme svar?” (Output gap in the Norwegian economy – different methodologies, -6 -6 same result?). 1980 1984 1988 1992 1996 2000 2004 Economic Bulletin no. 2/2000, p. 46-52. 1) Mainland Norway Sources: Statistics Norway and Norges Bank Giorno, C., P. Richardson, D. Roseveare and P. van den Noord (1995): Working Paper No. “Estimating potential 8 We have not adjusted the alternative technical calculations. The actual output, output gaps and structural budget balances”, GDP series, however, have been extended using estimates calculated Working Papers No. 152, OECD. using the UC method and the band-pass filter, cf. footnote 2.
Inflation report 2/2004 A change in inflation expectations?
Inflation expectations reflect developments in instruments contains information as to average inflation, the cyclical situation and monetary policy, inflation expectations over the term to maturity where the inflation target itself may form an anchor for these bonds. However, owing to various factors for inflation expectations. If there is confidence such as changes in market liquidity, different that the inflation target will be achieved over time, taxation of these products and time-varying risk short-term deviations in inflation from the target premiums, long-term inflation expectations cannot will have little impact on more long-term inflation be measured as precisely.2 expectations. As a result of the uncertainty surrounding the The risk of persistently low inflation was reflected global growth outlook and fears of deflation in in international capital markets through 2002 some countries, inflation expectations fell during and 2003. The risk has subsided and market- 2002 and up to the summer of 2003 (see Chart implied inflation expectations have increased. In 1). Improved growth prospects and a reduced risk 4499 Norway, short-term inflation expectations have of persistently low inflation have led to higher also continued to fall. Both in Norway and abroad, implied inflation expectations. While implied long-term inflation expectations still remain near inflation expectations for the US have continued to monetary policy objectives, however. rise in 2004, expectations have remained virtually unchanged for the UK and the euro area.3 This is Survey-based inflation expectations because inflation expectations for the first years in Consensus Forecasts is a monthly survey where the US have been revised up more than for the other macroeconomic analysts are interviewed about countries, as Consensus Forecasts also indicate. their inflation expectations.1 Short-term inflation expectations were lowered for most countries through 2002 and 2003. In the spring of 2004,
inflation expectations for 2004 and 2005 increased Chart 1 Implied long-term inflation rates1). Daily for the US and remained stable for the euro area figures2). 1 Jan 98 22 Jun 04 and Japan. For Norway, inflation expectations for 4 4
2004 and 2005 have continued to fall in pace with UK (2011) the observed low rate of inflation so far this year. 3 3 According to Consensus Forecasts, CPI inflation in Norway will be 0.6% in 2004 and 2.0% in 2005. 2 2 US (2010)
Long-term inflation expectations, measured as 1 Euro area (2012) 1 average annual inflation 6-10 years ahead, have been stable for most countries, in line with the monetary 0 0 policy objectives for the respective countries. For 1998 1999 2000 2001 2002 2003 2004 1) The chart shows expected average annual inflation rates up to Norway, long-term inflation expectations have been the year in question, derived from the yield spread between nominal bonds and inflation-linked bonds. Figures for the euro very close to 2.5% since Norges Bank switched to area are based on French bonds inflation targeting in the spring of 2001. 2) 20-day moving average Sources: Bloomberg and Norges Bank Market-based indicators of inflation expectations In some countries, the authorities have issued real return bonds in addition to nominal bonds. The yield differential between these two bond 2 For a further discussion, see On market-based measures of inflation expectations. Cedric Scholtes: Bank of England Quarterly Bulletin, 2002 and Inflation expectations and Real Return Bonds, Bank of Canada Review, Summer 1996. 1For the first years, there may be some differences between CPI inflation for which Consensus Forecasts provides projections and underlying 3 In the UK, real return bonds are RPI-indexed, but the Bank of inflation. Inflation expectations further ahead than the coming year are England’s inflation target of 2.0% is linked to the Harmonised Index of only published every six months in April and in October. Consumer Prices. Up to 10 December 2003, the inflation target was 2.5% as measured by the RPIX.
Inflation report 2/2004 In Norway, the government does not issue real return bonds. Long-term forward interest rates, Chart 2 Long-term real interest rates. Daily figures1). i.e. the short rate expected many years ahead, can 1 Jan 98 22 Jun 04 also be used as an indicator of long-term inflation 5 5 expectations. Long-term forward interest rates US (2010) can be interpreted as the sum of the expected real 4 Euro area (2012) 4 interest rate, expected inflation and risk premiums. Assuming constant risk premiums, changes in 3 3 UK (2011) the forward rate will reflect changes in long-term inflation expectations and real interest rates. 2 2
1 1 The long-term real required return in Norway is influenced by the real required return in global 0 0 capital markets. The yield on real return bonds 1998 1999 2000 2001 2002 2003 2004 fell markedly through 2002 and 2003, particularly 1) 20-day moving average in the US and the euro area (see Chart 2), Source: Bloomberg primarily reflecting falling real interest rates in 50 many countries, including Norway, in this period. Norwegian forward rates fell to a further extent than interest rates in major financial markets so that the long-term forward rate differential against many countries narrowed (see Chart 3). Chart 3 Long-term forward interest rate differential against selected countries1). Daily figures2). 1. Jan 01 21. June 04 Market information implies that this is attributable to 2 2
time-varying risk premiums in the Norwegian market Euro area UK as a result of limited size and liquidity in the market. 1 1 As a result of the interest rate cuts since December 2002 and lowered interest rate expectations in 2003, 0 0 many investors sought to increase the share of long- US term bonds in their portfolios, for example life and -1 -1 pension insurance companies with a required return minimum. The introduction of an inflation target -2 -2 may also have contributed to reducing the risk 2001 2002 2003 2004 premium for inflation uncertainty, contributing to 1) The chart shows the difference between implied 1-year interest rates 9 years ahead in Norway and in seleced countries lower long-term forward interest rates in Norway on the basis of interest rates in the swap market 2) 20-day moving average in this period. Source: EcoWin
Since April, international real interest rates and long-term forward interest rates have edged up, but are still at a historically low level. Norwegian long- term forward interest rates are now 3⁄4 percentage point higher than corresponding rates in the euro area, and about 1⁄4 percentage point lower than in the US.
Norwegian long-term forward rates have probably been influenced by changes in international real interest rates and changes in risk premiums. If we take this into account, there seems to have been little change in long-term inflation expectations in Norway in recent years.
Inflation report 2/2004 Preliminary evaluation of the projections in Inflation Report 1/04
Projections for inflation and economic the interest rate reductions on house rents. These developments ahead provide a basis for Norges two factors have pushed down overall consumer Bank’s monetary policy decisions. Norges Bank price inflation by an estimated 0.1-0.2 percentage places emphasis on the importance of evaluating point in the period. the projections in the Inflation Report and on transparency regarding the basis for our forecasts. Chart 2 compares the inflation projections in An evaluation of the projections made in the past Inflation Report 1/04 with predictions from a 1-3 years is published annually in Economic simple time series model that captures trend growth Bulletin. The projections are also discussed in the and seasonal variations in the CPI-ATE. This Annual Report. Norges Bank will now present a comparison may provide a basis for evaluating the preliminary evaluation of the projections in the projections. The simple time series model predicted previous report in every Inflation Report. To the actual inflation most accurately in the beginning of extent that the necessary information is available, the period, while the projections in Inflation Report the projections will be evaluated against actual 1/04 proved to be most accurate at the end of the 5511 developments. We will also analyse changes in the period. projections and compare Norges Bank's projections with those of other institutions. This may provide a
basis for improving our projections and deepening Chart 1 CPI-ATE1). Total and by supplier sector2). our understanding of the disturbances to which the Actual price movements and projections IR 1/04. economy has been exposed. 12-month rise. Per cent. Jan 01 Jul 04 5 5 Projections IR 1/04 Domestically produced goods and How accurate have the projections in 3 services (72) 3
Inflation Report 1/04 proved to be? CPI-ATE 1 1 In Inflation Report 1/04, we projected that an upturn in the Norwegian economy was under way. -1 -1 We projected that mainland GDP growth would be -3 Imported consumer goods (28) -3 stronger than growth in potential output in 2004, driven by an expansionary monetary policy and the -5 -5 Jan 03 Jul 03 Jan 04 international upturn. The output gap was expected 1) CPI-ATE: CPI adjusted for tax changes and excluding energy to be marginally positive as from 2005. Inflation products 2) Norges Bank's estimates. Percentage share of CPI-ATE in was nonetheless expected to remain low for a brackets period, edging up to 2% towards the end of 2004 Sources: Statistics Norway and Norges Bank and reaching target in spring 2006.
Chart 2 CPI-ATE. Projection IR 1/04, projection from Since Inflation Report 1/04 was published in time series model and actual price movements. March, the real economy in Norway has largely 12-month rise. Per cent. Dec 03 Jul 04 moved in line with our projections. Labour 0.8 0.8 market developments have been broadly in line with the projections in the March report. Inflation 0.6 0.6 developments have also been approximately in line Actual CPI-ATE 0.4 0.4 with our projections. Prices rose somewhat more Time series model than expected in March, but somewhat less than expected in April and May. The rise in prices for 0.2 0.2 imported consumer goods was somewhat higher 0 0 than expected, while domestic price inflation has Projection IR 1/04 approximately matched our projections (see Chart -0.2 -0.2 1). In our projections, we did not take into account Dec 03 Feb 04 Apr 04 Jun 04 extraordinary temporary disturbances such as lower Sources: Statistics Norway and Norges Bank rates for day-care places and the direct effects of
Inflation report 2/2004 Changes in projections from Inflation Chart 3 Assumption for the krone exchange rate Report 1/04 to 2/04 (I-44)1). Forward exchange rates. Monthly figures The projections in Inflation Report 1/04 and 110 110 Inflation Report 2/04 are based on the assumption that interest rates shadow forward interest rates and Forward rate 4 March (assumption IR 1/04) that the krone exchange rate moves in line with the 100 100 forward exchange rate. Forward rates have risen in the period from March to June and the krone has Forward rate 24 June appreciated compared with the path projected for 90 (assumption IR 2/04) 90
the forward exchange rate in Inflation Report 1/04 Import-weighted (see Charts 3 and 4). Overall, forward interest rates exchange rate, I-44 and forward exchange rates now imply a tighter 80 80 monetary policy in the period ahead than assumed 2001 2003 2005 2007 in Inflation Report 1/04. 1)A rising curve denotes a weaker krone exchange rate Source: Norges Bank The projections in the Inflation Report are also 52 based on other important assumptions concerning factors such as global economic developments. Chart 4 Assumption for the money market rate1). Global growth has been somewhat stronger than Forward interest rate2). Monthly figures. Per cent expected since Inflation Report 1/04. Stronger 10 10 growth has contributed to a rise in commodity 3-month money 8 market rate 8 prices and the prospect of a somewhat sharper rise in prices for imported consumer goods measured in 6 Forward rate 24 June 6 foreign currency. Oil prices have increased and are (assumption IR 2/04) 4 4 expected to remain high for a longer period than assumed in the previous Inflation Report. 2 Forward rate 4 March 2 (assumption IR 1/04) 0 0 The projections in Inflation Report 2/04 do not 2001 2003 2005 2007
differ substantially from the projections in Inflation 1) The money market rate is normally about 1⁄4 percentage point higher than the sight deposit rate Report 1/04. The changes in the projections are 2) 3-month money market rate up to May 2004. The 3-month forward rate is estimated using four money market rates and four government mainly due to new statistics and changes in the bond yields with different maturities as observed on 4 March and 24 assumptions for interest rates, exchange rates and June Source: Norges Bank global developments. The most important changes in the projections from Inflation Report 1/04 to Inflation Report 2/04 are as follows: • The output gap in 2003 is now considered to Chart 5 Projections for the CPI-ATE and the output gap1) in Inflation Report 1/04 (red) and 2/04 (green). have been somewhat more negative. Per cent • Projected mainland GDP growth in 2004 3 3 has been revised upwards somewhat. CPI-ATE The projections for 2005-2006 have been 2 2 revised downwards. IR 1/04 • Inflation projections have been revised 1 IR 2/04 1 downwards for 2005-2007. 0 0
More negative output gap in 2003 -1 Output gap -1 The projection for the output gap in 2003 has been revised downwards by 1⁄4 percentage point (see -2 -2 Chart 5). The size of the output gap is surrounded 2002 2003 2004 2005 2006 2007 1) The output gap measures the difference between actual and by considerable uncertainty. Different methods for trend mainland GDP calculating the output gap produce different results. Sources: Statistics Norway and Norges Bank Our projections for the output gap are based on a
Inflation report 2/2004 technical calculation, but discretionary adjustments Chart 6 CPI-ATE. Total and by supplier sector1). are also made based on other information.1 The 12-month rise. Per cent. Jan 01 Dec 07 6 6 downward revision of the estimate of the output Goods and services produced in Norway gap in 2003 reflects strong productivity growth 4 4 in the second half of 2003. We have assumed that this did not only reflect a normal cyclical 2 CPI-ATE 2 increase in productivity. The potential growth 0 0 in the economy may therefore have increased -2 -2 somewhat more than previously estimated. Projections IR 2/04 -4 Imported Projections IR 1/04 -4 Higher growth in mainland GDP in 2004, but consumer goods lower growth in 2005 and 2006 -6 -6 • Projected mainland GDP growth in 2004 2001 2003 2005 2007 has been revised upwards somewhat. 1) Norges Bank's estimates Current statistics have provided a basis Sources: Statistics Norway and Norges Bank for increasing the projection for growth in private investment in 2004. Stronger growth 5533 internationally will result in increased exports. • A stronger krone and higher interest rate expectations push down projected growth in 2005 and 2006 compared with the projections in Inflation Report 1/04.
Lower rise in the CPI-ATE in 2005 and 2006 • Projections for the rise in prices for imported consumer goods in 2005 and 2006 have been revised downwards, largely as a result of a stronger krone exchange rate (see Chart 6). Upward revisions of the rise in prices for these goods measured in foreign currency have the opposite effect, but do not fully offset the effect of the krone appreciation. • Projections for the rise in prices for domestically produced goods and services have also been revised downwards (see Chart 6). A less expansionary monetary policy and lower price inflation have led to a slight downward revision of wage growth projections for both 2005 and 2006. This pushes down the projection for domestic inflation compared with Inflation Report 1/ 04. The indirect effects of a stronger krone exchange rate also contribute to pushing down price inflation in 2005 and 2006, while in isolation the indirect effects of a higher oil price contribute to pushing up inflation somewhat in 2005.
1See box on page 46 in this Inflation Report and the box in Inflation Report 3/03 for further details.
Inflation report 2/2004 Projections from other institutions Chart 7 Mainland GDP. The last two projections published for 2004. Percentage growth The projections in Inflation Report 1/04 can also be 4 4 evaluated by comparing them with projections from other institutions. 3 3 2 2 Charts 7 and 8 show the two most recently published projections for the rise in the CPI-ATE 1 1 and mainland GDP from the Ministry of Finance, 0 0 Statistics Norway and Norges Bank. The Ministry FIN SN NB of Finance’s projections are from 3 October 2003 -1 -1 and 11 May 2004, while both Statistics Norway and 10/03 5/04 3/04 6/04 3/04 7/04 Norges Bank published projections on 11 March -2 -2 2 Sources: Ministry of Finance (FIN): National Budget 2004, 2004 . Statistics Norway published new forecasts Revised National Budget 2004. Statistics Norway (SN): Economic on 17 June. As the three institutions publish Survey 1/2004 and 3/2004. Norges Bank (NB): Inflation Report 1/2004 and 2/2004 projections at different times, the information on which the projections are based may differ. This 54 means that such a simple comparison must be interpreted with caution.
There are relatively small differences in the Chart 8 CPI-ATE. The last two projections projections for mainland GDP growth. All the published for 2004. Percentage rise institutions have gradually revised downwards 2 2 their projections for the rise in the CPI-ATE in 2004. 1 1
0 0 FIN SN NB
10/03 5/04 3/04 6/04 3/04 7/04 -1 -1
Sources: Ministry of Finance (FIN): National Budget 2004, Revised National Budget 2004. Statistics Norway (SN): Economic Survey 1/2004 and 3/2004. Norges Bank (NB): Inflation Report 1/2004 and 2/2004
2 The projection from Statistics Norway was updated using the quarterly national accounts figures for the fourth quarter of 2003. Norges Bank did not have access to this information when the projections for Inflation Report 1/04 were made.
Inflation report 2/2004 What are the factors behind the rise in oil futures prices?
Oil prices are high. Spot prices have averaged more than USD 33 so far this year. The average price so Chart 2 Futures price curves for Brent Blend at three different times with the same spot price (USD 35 per far this decade is USD 28, while the average price barrel) for the 1990s was a little more than USD 18.1 40 40 38 38 Oil futures prices have also shown a marked 36 36 increase. Chart 1 shows futures prices using the 34 34 benchmark for pricing oil in the US (West Texas 32 June 2004 32 Intermediate) for delivery 6-7 years ahead.2 While 30 March 2003 30 this futures price was lower than USD 20 in the 28 28 26 August 2000 26 1990s, it is now higher than USD 28. 24 24 22 22 Normally, there is a close and positive relationship 20 20 5555 between oil spot prices and futures prices. Long- 5 10 15 20 25 30 35 term futures prices are generally more stable than Number of months to maturity spot prices and short-term futures prices. However, Source: EcoWin medium- to long-term futures prices have risen markedly over the past year with the same spot price. Chart 2 shows the curve for futures contracts Futures prices indicate that oil prices may remain with rising term to maturity for three different high in the period ahead, owing to several factors: points in time with the same spot price: in August 2000, March 2003 and June 2004. • Demand for oil is expected to increase in large, emerging economies, particularly in Asia. China alone has accounted for close to half of the growth in global oil demand in the past five years. Economic growth in Chart 1 Spot and futures prices (6 7 years) for oil several of the emerging economies in Asia in the US. USD per barrel. Quarterly figures. is expected to be high in the period ahead. 91 Q1 04 Q2 Moreover, production in these countries is 40 40 considerably more energy-intensive than in most OECD countries. Spot price • Growth in non-OPEC oil supply is expected 30 30 to slow faster than previously assumed. According to a report from Energy Intelligence Research3, non-OPEC oil 20 20 supply is projected to stabilise after 2005 – Futures price growth in the supply of oil from the former Soviet Union, West African countries and 10 10 Latin America will be offset by a fall in the 1991 1994 1997 2000 2003 supply of oil from the North Sea and North Source: EcoWin America. • World oil reserve estimates were recently revised up by British Petroleum4, but some international oil companies have recently 1 Even though oil prices are high, the real oil price – i.e. the oil price revised down fairly markedly their oil adjusted for the general rise in prices – is not particularly high from a historical perspective. For example, prices were markedly higher in the first half of the 1980s, but were also higher during the first Gulf War in 3 Energy Intelligence Research: The Oil Supply Dilemma: The Financial the beginning of the 1990s. Positions and Investment Needs of Major Oil Exporters. See http: 2 The price of West Texas Intermediate (WTI) is normally a few dollars //www.energyintel.com higher than Brendt Blend owing to a higher grade and lower transport 4 BP Statistical Review of World Energy, June 2004. See http:// costs. www.bp.com.
Inflation report 2/2004 reserve estimates. Some analysts also and the United Arab Emirates, most OPEC predict that some of the large international countries will favour higher prices over oil companies may find it difficult to a higher market share.5 Moreover OPEC increase their reserves through their own countries need a high oil price from the finds (rather than through acquisitions of point of view of state finances, even though other companies) and assume that this will production costs in these countries are inhibit production growth. low. Equally important, however, is an • The need to increase capacity in the expected increase in the need for OPEC extraction, production and transport of oil production in line with the continued crude oil and refined products will require growth in global oil demand as the supply substantial new investments in the coming of non-OPEC oil stagnates. years. Capacity constraints may lead to • Several OPEC countries are experiencing higher oil prices for a transitional period, heightening political uncertainty. Recently, at the same time that higher oil prices oil prices have been influenced in particular are needed to make these investments by growing fears of terror and political profitable. The rise in futures prices unrest in Saudi Arabia. Sabotage, terror may therefore reflect a higher long-term and political uncertainty in Iraq have also marginal oil cost for countries other than reduced the prospects for current and future 56 the oil-rich countries in the Middle East. oil production in Iraq compared with one • In recent years, OPEC has shown a growing year earlier. Other OPEC countries – in willingness and capacity to sustain oil particular Venezuela and Nigeria in recent prices. The trade-off between a higher oil years – have faced and may continue to price and a loss of market shares for OPEC experience political unrest that may affect – which historically has been one of the oil production. Market expectations seem main challenges facing the cartel – should to indicate that these factors will have a also prove to be easier in the years ahead. more long-lasting effect on oil prices, and With limited idle production capacity in that a risk premium has now also been OPEC, with the exception of Saudi Arabia factored into long-term futures prices.
5 OPEC must naturally be cautious about pressing up oil prices to a level that makes it more profitable to develop alternative energy sources, thereby undermining oil’s dominant role.
Inflation report 2/2004 Monetary policy meetings in Norges Bank with changes in the sight deposit rate and a statement regarding the inflation outlook
Date Sight deposit rate1 Change Bias2
Future meetings 15 December 2004 3 November 2004 22 September 2004 11 August 2004
Previous monetary policy meetings 1 July 2004 1.75 0 26 May 2004 1.75 0 Downside bias 21 April 2004 1.75 0 Downside bias 11 March 2004 1.75 0 Downside bias 5577 28 January 2004 2 -1⁄4 Downside bias 17 December 2003 2.25 -1⁄4 Downside bias 29 October 2003 2.5 0 Neutral bias 17 September 2003 2.5 -1⁄2 Neutral bias 13 August 2003 3 -1 Downside bias 25 June 2003 4 -1 Downside bias 30 April 2003 5 -1⁄2 Downside bias 05 March 2003 5.5 -1⁄2 Downside bias 22 January 2003 6 -1⁄2 Downside bias 11 December 2002 6.5 -1⁄2 Downside bias 30 October 2002 7 0 Neutral bias 18 September 2002 7 0 Neutral bias 07 August 2002 7 0 Upside bias 03 July 2002 7 +1⁄2 Upside bias 22 May 2002 6.5 0 Upside bias 10 April 2002 6.5 0 Neutral bias 27 February 2002 6.5 0 Neutral bias 23 January 2002 6.5 0 Downside bias 12 December 2001 6.5 -1⁄2 Downside bias 31 October 2001 7 0 Downside bias 19 September 2001 7 0 Neutral 07 August 2001 7 0 Neutral 20 June 2001 7 0 Neutral
1The sight deposit rate is Norges Bank's key rate. The sight deposit rate is the interest rate on banks' deposits in Norges Bank. The sight deposit rate forms a floor for money market rates. By manageing banks' access to liquidity, the central bank ensures that short- term money market rates are normally a little higher than the sight deposit rate. 2 A neutral bias indicated that according to Norges Bank's assessment, with an unchanged interst rate (at the rate after the change approved the same day), the probability that inflation two years ahead would be higher than 21⁄2 per cent was the same as the probability that it would be lower. A downside bias indicated that according to Norges Bank's assessment, with an unchanged interest rate (at the rate after the change approved the same day), the probability that inflation two years ahead would be lower than 21⁄2 per cent was greater than the probability that it would be higher. An upside bias indicated that according to Norges Bank's assessment, with an unchanged interest rate (at the rate after the change approved the same day), the probability that inflation two years ahead would be higher than 21⁄2 per cent was greater than the probability that it would be lower. As from the monetary policy meeting on 1 July 2004, Norges Bank will no longer publish a separate statement with an assessment of the inflation outlook.
Inflation report 2/2004 58
Inflation report 2/2004 59
Annex I Regional network
Inflation report 2/2004 Norges Bank's regional network
Norges Bank’s regional network was established will provide us with insight into the effects of in autumn 2002 and consists of enterprises, specific events and enable us to study relevant organisations and local authorities throughout issues. Official statistics will continue to form the Norway. In five rounds of talks each year, we engage basis for our perception of the state of the economy, in discussions with business and community leaders but the time lags and revisions associated with these on financial developments in their enterprises and statistics make supplementary sources such as our industries, with about 250 visits in each round. The regional network useful. contacts reflect the production side of the economy, both in terms of industry sector and geographic The information obtained from the regional area. Approximately 1000 individuals in the network, along with other available information network are contacted one to two times a year. on economic developments, will form a basis for Norges Bank’s projections as presented in the The purpose of the regional network is to obtain Inflation Report and other published material. 60 updated information on the state of the Norwegian economy. Regular communication with local We have divided Norway into seven regions, contacts in Norway’s business and community and have engaged regional research institutions/ life provide us with information earlier and more companies to be responsible for the network in frequently than available government statistics. It their respective regions and to have meetings with also provides us with supplementary information contacts on behalf of Norges Bank. The following about areas not covered by other statistical sources, institutions have been selected: and we learn which issues are of particular concern to enterprises. In addition, the regional network
Region North (Nordland, Troms and Finnmark) Kunnskapsparken Bodø Center for economic studies at Region Central Norway (North-and South-Trøndelag) NTNU Region North-West (Møre and Romsdal, Sogn and Fjordane) Møreforskning Molde
Region South-West (Rogaland and Hordaland) Rogalandsforskning
Region South (Aust- and Vest-Agder, Telemark and Vestfold) Agderforskning
Region inland (Hedmark and Oppland) Østlandsforskning
Region East (Buskerud, Akershus, Oslo and Østfold) Asplan Viak
Inflation report 2/2004 Summary of the two contact rounds since Inflation Report 1/04
In the two contact rounds since the March Inflation Report, discussions have been held with a total of approximately 570 contacts in the regional network. A national summary and summaries for each region from the first of these contact rounds were presented on Norges Bank’s website following the monetary policy meeting of 26 May. Summaries from the last round of contacts will be available on our website on 2 July. The main points below are based on the regional reports from the institutions responsible for the various regions and do not necessarily reflect Norges Bank’s view of economic developments:
• Most business sectors report continued growth and increased activity. The market outlook is positive and the growth rate ahead is expected to be approximately the same as in the preceding period. • The export industry is experiencing a period of solid growth. High steel prices and strong international demand have resulted in a favourable situation for the metal and process industries. 6611 The technology industry reports solid growth, both at home and abroad. The shipbuilding industry in the North-West, however, is still struggling with low demand and tough competition. • The growth rate for domestically-oriented manufacturing appears to be levelling off after a steady rise since the spring of 2003. Manufacturing supplying households and the building and construction sector is experiencing a positive period. The food industry reports moderate growth. • The offshore industry has experienced a pronounced upturn since the winter and is currently experiencing a period of high activity. This has a positive effect on the offshore yards, equipment suppliers and technical consulting companies. High oil prices, development of the Snøhvit and Ormen Lange offshore fields and the allocation of new exploration blocks create expectations of solid growth ahead. • The building and construction sector reports solid growth and good prospects throughout the country. Residential construction and public sector projects are still the primary drivers of growth. In some regions, the construction of onshore installations for oil and gas production is also contributing to growth. The decline in the commercial buildings market has levelled off, and there are still few signs of recovery. • The positive trend that has prevailed in the corporate services sector since last autumn continues. Demand for IT, consulting, advertising, financial and architectural services is rising steadily. Temporary employment agencies have experienced sharp market growth recently. • Wholesale and retail trade reports pronounced growth throughout the country. Growth is particularly strong for consumer durables such as cars, building materials, furniture and electrical articles. Growth in demand for household services is still solid. Low air fares have increased the desire to travel. Growth in household credit is high, whereas the default rate is reported to be low. • There is now a moderate willingness to invest in the manufacturing sector, and particularly in the export and oil industries. Wholesale and retail trade also reports a moderate willingness to invest in the next few years. The public and private service sectors intend to keep investment at about the same level. • Employment growth in wholesale and retail trade, other services and construction is reported to be moderate. The decline in manufacturing employment is reported to have come to a halt. Employment continues to fall slightly in the public sector. • In the export industry, the fall in prices has come to a halt, and prices are reported to have increased markedly since the March Inflation Report. Retail prices in domestically-oriented manufacturing continue to rise moderately. The rate of increase in prices have edged up in the wholesale and retail sector. Profitability is improving in all business sectors. Wage growth is expected to be lower in 2004 than in 2003.
Inflation report 2/2004 Enterprises and organisations that have been contacted in the work on this Inflation Report
Adviso AS Clear Channel Norway AS Gjøco AS Kolberg Motors AS Advokatfirmaet Schjødt AS Comfort Hotell Lillehammer AS Gjøvik kommune Kongsberg Automotive ASA Aetat Grenland Comrod AS Glamox ASA Kongsberg Spacetec AS Aetat Vest-Agder Conoco Phillips Norway Glava AS Kontali Analyse AS Air Products AS Consept AS Glomma Papp AS KPMG AIT Otta Coop Finnmark BA Godstrafikk og Bilspedisjon AS Kragerø kommune Aker Kværner ASA Coop Finnsnes BA Grieg Logistics Kristiansand Cementstøperi AS Aker Stord Coop Hordaland BA Grieg Seafood AS Kristiansand Næringsforening Aker Universitetssykehus Coop Inn-Trøndelag BA Grimstad kommune Kristiansund Havn KF Aker Verdal COOP Sambo AS Gro Industrier AS Krogsveen Raknes AS Akershus Universitetssykehus Coop Sogn og Fjordane BA Grytnes Betong AS Kroken Caravan AS Akershus Fylkeskommune Coop Sunndalsøra BA Gudesen Produkter AS Kruse Betong Aksel L. Hansson Coop Trondheim og omegn BA Gunnar Karlsen AS Lafopa Industrier AS Albert E Olsen AS Creato Gunnar Klo AS Landskapsentreprenørene AS Alexandra Hotel AS Daldata AS Gyldendal ASA Lefdal Elektromarked AS Lade Allianse AS David Andersen AS H. O. Bernhardsen Lefdal Installasjon AS Alta kommune De Sandvigske Samlinger Maihaugen H.Jøkelsrud Leif Gromstads Auto AS Amek AS Deloitte Norge Hafjell Alpinsenter AS Leiv Sand Transport AS Amersham Health AS Demex AS Hakon Distribusjon AS Lenvik kommune Amfi Drift AS Den Norske Bank ASA, Region Hamar Elektro AS Lidl Norge Amfi Veita Sørlandet Hamar kommune Lilleborg AS Ankerløkken AS Den Norske Bank ASA, Tønsberg Handels- og Servicenæringens Lillesand produkter AS 62 Ankerske Naturstein AS Diakonhjemmet Hovedorganisasjon Lindex AS Anleggsgartnerfirma Strandman AS Dinamo Norge AS Handelsbanken Trondheim Lindstrøm Hotell AS Apotekene Vest HF Dokka Fasteners Hank Sport AS Linjebygg Offshore AS Aquarius AS Domstein ASA Hansa Borg Bryggerier ASA Link Arkitekter Arbor Gruppen AS Drammen kommune Hansen Dahl Holding AS Lofoten Fiskerestaurant AS Arendal kommune EFD Induction AS Haram kommune Løvenskiold Handel AS ARKI arkitektar AS Egil Kristoffersen & Sønner AS Harila Midt -Troms AS Løvenskiold Trelast AS Arkitektfirma Brandsberg-Dahl Eidesvik Holding AS Havforskningsinstituttet Madsen Bil AS Arntzen de Besche Advokatfirma AS Eidsiva Kontorservice AS Havkrefter AS Madshus AS Art In Dent AS Eiendomsdrift Nord AS Havsølv AS Mandal kommune Artic Seafood Holding AS Eiendomsmegler 1 Midt-Norge AS Hedmark Eiendom AS Manpower Asker kommune Ekornes ASA Hegra Sparebank Maritech AS ASKO Agder AS Elcon Finans Heimdal Gruppen AS Martin M. Bakken Atmel Norge Elektro AS Helgeland Kraft AS Martin Olsen Møbelgalleri AS Avinor AS Elgiganten AS Helgeland Vekst AS Max Mat AS Avisa Nordland AS Elkem Aluminium ANS Helly Hansen Spesialprodukter AS Melhus Sparebank Ballangen Camping AS Elkem ASA Helse Bergen HF Meløy Bedriftsservice AS Balsfjord kommune ELKJØP Stormarked Skien Helse Nordmøre og Romsdal Meløy kommune Bardu Hotell AS Elvemo og Hjertås Bygg AS Hennig-Olsen Is AS Meløy Næringsutvikling Bennett BTI Nordic Norge AS Elverum kommune Hepro AS Mercuri Urval AS Berg-Hansen Storby Ementor Norway ASA Herman Lepsø AS Mesta AS Berg Jacobsen Gruppen Emma EDB AS Herøy kommune Microsoft Norge AS Bergen kommune Engerdal kommune Hitec Framnæs AS Midnor Group AS Bergene Holm AS Eramet Norway Hitec O AS Midsund Bruk AS Bergens rørhandel ErgoRunit AS Holm Grafisk AS Midtre Gauldal kommune Bergens Tidende Ernst & Young AS Hordaland Reiseliv Mills DA Berg-Hansen Reisebureau Esmeralda AS Hotell Refsnes Gods AS Minde Sjokolade Berle Fisk AS Euronics Norge AS Hunter Douglas Norge Mjosundet Båt og Hydraulikk AS Bertel O. Steen Eurosko AS Hustadmarmor A/S Mjøsplast AS BeWi Produkter AS Expert Norge AS Hydro Aluminium AS Modolv Sjøset Pelagic AS Bio Mar AS Falkanger Sko AS Hydro Aluminium Profiler AS Moelven Østerdalsbruket Black Design AS Farveringen AS Hydro Exploration and Production Multi Elektro AS Bladet Vesterålen/Norvest AS, Fauske Hotell AS Norway Multiconsult AS Block Watne AS FAV Gruppen Høgskolen i Sør-Trøndelag Mårli & Pettersen Reklame AS Bodø kommune Felleskjøpet Bergneset Høgskolen Lillehammer Nannestad kommune Bodø Transport og Caravan AS Ferner Jacobsen Høgskolen Molde Narvik kommune Borgstein AS First Victoria Hotel I. P. Huse AS Narvik Storsenter Drift AS BP Norge AS Fiskeridirektoratet Ikea Navigator AS Bravida ASA Fjellpulken AS Indre Sogn Sparebank NCC Construction AS Bravida Sørøst AS Fjord 1 Intersport Lillehammer AS Nerland Granitindustri AS Brekke Industrier AS Fjord Marin AS IPEC Instrumentering AS Nettbuss Sør AS Brødrene Bakk AS Fjordline - Bergen ISS Norge AS Nexans Norway AS Brødrene Flaarønning AS Fjällräven AS Itet AS NHO Trøndelag Brødrene Pedersen AS Flatsetsund Møbel- og Trevarefabrikk Ivar Mjåland, Mandal Nobø Electro AS Buer Entreprenør AS AS Iver Bil AS Norac AS Bunnpris Flyspesialisten Trondheim AS J. M. Johansen AS Nor-Dan AS Bussen Trafikkselskap AS Flytoget AS JC Jeans & Clothes AS Nordbohus Vinstra AS Bygg og Maskin AS Friele kaffehus Jiffy Products International AS Nordea Bank Norge ASA Bygger'n Orkdal Fritjof Kristiansen AS Johansen TH & Sønner AS Nordek AS Byggkjøp Kåre Abelsen AS Frost Entreprenør AS Julius Maske AS Nordia AS Byggmakker Norgros Fundamus AS Jøtul ASA Nordlaks AS Byggmester Grande AS Fylkesmannen i Vest-Agder Kantega AS NordMegler AS Bærum kommune Gaupen Henger Karmøy Stål Nordmøre Revisjon AS Børset og Bjerkset AS Geelmuyden Kiese AS Kewa Invest AS Norges Handels- og Sjøfartstidende Båtservice Holding ASA Geoservice AS Kiwi Norge AS Norgesbuss Østfold-Vestfold AS Båtsfjordbruket AS Gilde Norsk Kjøtt AS Kleiven Sogn A/S Norgestaxi Trondheim AS CBB Stål AS avd. Trondheim Gilstad Trelast AS Kleven Florø AS Norisol Norge AS CC Martn Gjensidige Nor Forsikring Klingenberg Hotel AS Norli Gruppen AS CHC Norway Gjestal Spinneri ASA KLP Eiendom Trondheim Norpower Brødr. Malo AS Christie & Opsahl AS Gjestegården AS Knutsen OAS Norsk Gallup Institutt AS
Inflation report 2/2004 Norsk Stein AS Radisson SAS Hotel Tromsø SMV Hydraulic AS Tommen Gram Folie AS Norske Skogindustrustrier Radisson SAS Lillehammer Hotell SND Sogn og Fjordane Topp Auto AS Nortrans Touring AS Rambøll Norge AS Lillehammer Snillfjord kommune Toten Bygg og Anlegg AS Nortroll AS Rapp Bomek ASA Solhaug Entreprenør AS Toten Transport A/L Nortronic AS Rasmuss Tallaksen Sortland Entreprenør AS Totens Sparebank Notodden Mur- og Rasmussen K. A. AS Sortland kommune Trafikk & Anlegg AS Entreprenørforretning AS Rauma kommune SPAR Hamresanden Trebetong AS NTNU Reber Schindler Heis AS Sparebank 1 Nord-Norge Trioving AS Nycomed Pharma Reinertsen Anlegg AS Sparebank Sør Triplex AS Nye Møre Tre AS Reinertsen Engineering AS Sparebanken Hedmark Trondheim kino NYMO AS Rema 1000 Sparebanken Møre TV Nordvest AS Nøsted Kjetting AS Restech Norway AS Sparebanken Sør Tysvær kommune O. Kavli AS Rica Hotel Hamar Sparebanken Vest Uldal Vinduer og Dører AS Obos Eiendosmforvaltning AS Rica Hotels ASA Sparebanken Øst Ullevål Universitetssykehus Oceanor AS Rica Park Hotel Sperre Støperi Ulstein Verft AS Odfjell ASA Rieber & Søn Elverum Spice AS Umoe Catering AS Ole K. Karlsen Entrepenør AS Riibe Mynthandel Sport 1 Gruppen AS Union Hotel Ole Moe Engros Ring Mekanikk AS Sportshuset AS United Pan-Europe Communications Oljedirektoratet Ringnes AS Stabburet AS Universal Spedisjon AS Olsen Johs AS Robinson Scandinavia AS Stange kommune Valle sparebank Opera Software ASA Rogaland Kunnskapspark Stansefabrikken Lillesand AS Vann og Varme AS Oppland Entrepenør AS Rolls Royce Marine Stantek Kongsvinger AS Veidekke ASA Opus AS Romsdals Budstikke AS Star Carboline Gruppen Verdal kommune Orkdal Installasjon AS Rygge kommune Star Tour Vest Inkasso AS Orkdal kommune Rørteknikk AS Steertec Raufoss AS Vest Sandblåsing AS Os kommune SalMar AS Stillasservice AS Vestbase AS Oslo Entrepenør AS Saltenposten AS Stokke Gruppen AS Vest-Busscar Stryn AS 6633 Osram AS Samarbeidende Revisorer AS Stormoa Butikksenter VIBO Entreprenør AS Owens Corning Fiberglas Norway AS Sandefjord kommune Storvik AS Vigor AS PA Consultning Group AS Scan Wafer ASA Studentsamskipnaden i Agder Vinn Pareto Securities AS ScanPartner AS Støren Trelast AS Vital Forsikring ASA Parfymelle AS ScanRope AS Subsea7 AS Vital Næringseiendom AS Pay & Brinck Motor AS Schibsted ASA Svaneaptoeket i Hamar Volmax AS PDC Tangen AS SEB Kort AB Sveins Auto AS Volvo Trucks Norway AS Peab AS Selje Hotel AS Sykehuset Innlandet HF Våler Bygg AS Pedersens Lastebiltransport AS Selmer Skanska AS Sykehuset Telemark HF Webrift AS Per Solem Arkitektkontor AS Sentrum Regnskap Hitra Syljuåsen AS Wennberg Trykkeri AS Personalservice AS Siemens AS Sylteosen Betongvarefabrikk AS Wenaas AS PGS Production Group Silvinova Sønnico AS Westnofa AS PipeLife Norge AS Simon Møkster Shipping AS Sørco AS Westres Bakeri AS Plast Sveis AS SINTEF konsernstab Sørlandet sykehus HF Widerøes Flyveselskap ASA Polargruppen AS SIVA Selskapet for industrivekst SF Sør-Trøndelag fylkeskommune Xerox AS Polimoon AS Sjøsiden Senter AS Taubåtkompaniet AS Yara International ASA Porsgrunds Porselænsfabrik AS Sjøvik AS Taxi Molde YIT Building Systems AS PricewaterhouseCoopers DA Sjåtil og Fornæss Team Ged AS Østbyen Bil AS Prior Norge BA Skagen Brygge Hotell Team Trafikk AS Øveraasen AS Proffice Vestfold Skagen Fondene Teeness ASA Åmot kommune Profil Lakkering AS Skanska, Rogaland Teknisk Bureau AS Årdal Stålindustri AS Protech AS Skifer & Naturstein AS Timpex AS Åsen & Øvrelid AS Protek TELsoft AS Skipsplast AS Tine Meierier Vest 3T Produkter AS På Håret AS Skodje Byggvare AS Tine Midt-Norge AS Radisson SAS Caledonien Hotel Slatlem & Co AS Tine Østlandsmeieriet
Inflation report 2/2004 64
Inflation report 2/2004 65
Annex II Statistics
Inflation report 2/2004 Table 1 Main macroeconomic aggregates Private Public Percentage Exports Mainland cons- spending on Mainland Petroleum change from trad. Imports GDP GDP ump- goods and fixed inv. inv.1) previous goods year/quarter tion services
1997 5.2 4.9 3.2 2.5 11.8 24.9 7.6 12.4 1998 2.6 4.1 2.7 3.3 8.6 22.2 5.4 8.5 1999 2.1 2.7 3.3 3.2 -0.1 -13.1 2.2 -1.8 2000 2.8 2.5 3.9 1.3 -1.2 -23.0 5.1 2.7 2001 2.7 2.1 1.8 5.8 4.3 -4.1 1.5 0.9 2002 1.4 1.7 3.6 3.1 -2.5 -3.6 1.6 2.3 2003 0.4 0.6 3.8 1.4 -4.7 15.8 2.6 2.2 20032) Q1 -1.4 -1.0 0.1 1.3 -3.6 -2.3 1.6 0.5 Q2 0.3 0.6 1.2 1.6 -1.8 13.7 3.2 -0.3 Q3 1.2 1.4 1.2 -1.1 -1.7 2.9 1.2 0.0 Q4 0.5 0.6 1.2 0.3 2.1 -6.8 1.5 2.1 20042) Q1 1.0 0.5 1.8 0.2 -1.7 8.3 -0.4 2.9 66 Level 2003, in 1564 1246 722 353 195 63 189 433 billions NOK 1) Extraction and pipeline transport 2) Seasonally adjusted quarterly figures Table 2 Consumer prices
Twelve-month CPI CPI-ATE1) CPI-AT2) CPI-AE3) HICP4) rise.
1997 2.6 2.3 2.6 1998 2.3 2.9 2.0 1999 2.3 2.3 2.1 2000 3.1 2.3 3.0 2001 3.0 2.6 3.2 2.4 2.7 2002 1.3 2.3 2.2 1.6 0.8 2003 2.5 1.1 2.5 1.0 2.0 2003 Jan 5.0 1.8 5.4 1.6 4.2 Feb 4.8 2.0 5.2 1.7 4.1 Mar 3.7 1.5 3.9 1.3 3.2 Apr 2.9 1.6 3.0 1.7 2.5 May 2.1 1.2 2.0 1.2 1.8 Jun 1.7 0.8 1.6 0.9 1.5 Jul 1.5 0.7 1.4 0.7 1.2 Aug 2.1 0.9 2.1 0.9 1.8 Sep 2.1 0.9 1.9 1.0 1.5 Oct 1.6 0.8 1.6 0.9 1.3 Nov 1.4 0.5 1.3 0.6 1.0 Dec 0.6 0.4 0.5 0.5 0.1 2004 Jan -1.8 0.1 -2.4 0.5 -1.4 Feb -1.7 -0.1 -2.3 0.4 -1.5 Mar -0.6 0.3 -1.1 0.7 -0.4 Apr 0.4 0.2 -0.1 0.5 0.4 May 1.0 0.1 0.6 0.5 1.0 1) CPI-ATE: CPI adjusted for tax changes and excluding energy products 2) CPI-AT: CPI adjusted for tax changes 3) CPI-AE: CPI excluding energy products 4) HICP: The Harmonised Index of Consumer Prices. The index is based on international criteria drawn up by Eurostat.
Inflation report 2/2004 Table 3 Interest rates Norges Bank 's key rate Money market rates Yield on (average) NIBOR1) government bonds2) Per cent Sight deposit rate 1-week 3-month 12-month 10-year 1997 3.4 3.6 3.7 4.2 5.9 1998 5.5 5.9 5.8 5.7 5.4 1999 6.3 6.9 6.5 6.0 5.5 2000 6.2 6.6 6.8 7.1 6.2 2001 7.0 7.2 7.2 7.1 6.2 2002 6.7 6.9 6.9 6.9 6.4 2003 4.2 4.4 4.1 4.0 5.0 2003 Jan 6.3 6.4 6.0 5.6 5.7 Feb 6.0 6.1 5.7 5.3 5.3 Mar 5.6 5.6 5.5 5.2 5.2 Apr 5.5 5.6 5.3 5.0 5.3 May 5.0 5.2 4.9 4.5 5.0 Jun 4.8 4.8 4.0 3.6 4.5 67 Jul 4.0 4.2 3.5 3.2 4.9 Aug 3.4 3.5 3.1 3.2 5.0 Sep 2.8 3.0 2.8 3.0 4.9 Oct 2.5 2.9 2.9 3.1 4.9 Nov 2.5 2.8 2.9 3.1 5.0 Dec 2.4 2.7 2.6 2.8 4.8 2004 Jan 2.2 2.4 2.3 2.3 4.5 Feb 2.0 2.2 2.0 2.1 4.3 Mar 1.8 2.0 1.8 1.9 4.1 Apr 1.8 2.0 2.0 2.2 4.7 May 1.8 2.0 2.0 2.3 4.9 2004 04 Jun 1.8 2.1 2.0 2.4 4.8 11 Jun 1.8 2.1 2.0 2.4 4.8 18 Jun 1.8 2.0 2.1 2.4 4.7 24 Jun3) 1.8 2.1 2.0 2.4 4.6
1) NIBOR= Norwegian interbank offered rate. 2) Yield on representative 10-year government bond. The yield is calculated by weighting one or two governement bonds with th residual maturity. 3) Average 21-24 June.
3-month money-market rate and sight deposit rate1). Monthly figures. Jan 95 May 04 10 10
8 8 3-month money 6 market rate 6 Sight deposit rate 4 4
2 2
0 0 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004
1) The money market rate is normally about 1⁄4 percentage point higher than the sight deposit rate Source: Norges Bank
Inflation report 2/2004 Table 4 International interest rates Short-term interest rates1) for key currencies in Interest rate Yield on the Euromarket differential government bonds3) Trading NOK/trading USD JPY EUR GBP SEK partners2) partners USA Germany 1997 5.2 0.5 6.8 4.2 4.1 -0.5 6.4 5.7 1998 4.8 0.5 7.3 4.2 4.2 1.5 5.3 4.6 1999 5.4 0.2 2.9 5.5 3.3 3.3 3.0 5.8 4.6 2000 6.5 0.3 4.4 6.1 4.0 4.4 2.2 6.1 5.3 2001 3.7 0.1 4.2 5.0 4.0 4.0 3.2 5.2 4.9 2002 1.8 0.0 3.3 4.0 4.2 3.2 3.6 4.6 4.9 2003 1.2 0.0 2.3 3.7 3.1 2.4 1.6 4.0 4.2 2003 Jan 1.3 0.0 2.8 3.9 3.8 2.8 3.1 4.0 4.2 Feb 1.3 0.0 2.7 3.7 3.7 2.7 2.9 3.9 4.0 Mar 1.3 0.0 2.5 3.6 3.5 2.5 2.9 3.8 4.1 Apr 1.3 0.0 2.5 3.6 3.5 2.5 2.6 4.0 4.2 May 1.2 0.0 2.4 3.6 3.3 2.4 2.4 3.5 3.9 Jun 1.1 0.0 2.1 3.6 2.9 2.2 1.7 3.3 3.7 68 Jul 1.1 0.0 2.1 3.4 2.8 2.1 1.2 4.0 4.1 Aug 1.1 0.0 2.1 3.5 2.8 2.2 0.9 4.4 4.2 Sep 1.1 0.0 2.1 3.6 2.8 2.2 0.5 4.3 4.3 Oct 1.1 0.0 2.1 3.8 2.8 2.2 0.5 4.2 4.3 Nov 1.1 0.0 2.1 3.9 2.8 2.2 0.5 4.3 4.5 Dec 1.1 0.0 2.1 4.0 2.8 2.2 0.3 4.3 4.4 2004 Jan 1.1 0.0 2.1 4.0 2.7 2.2 0 4.1 4.3 Feb 1.1 0.0 2.1 4.1 2.5 2.2 -0.3 4.1 4.2 Mar 1.1 0.0 2.0 4.3 2.3 2.1 -0.4 3.8 4.0 Apr 1.1 0.0 2.0 4.3 2.1 2.1 -0.2 4.3 4.2 May 1.2 0.0 2.1 4.5 2.1 2.1 -0.3 4.7 4.3 2004 04 Jun 1.3 0.0 2.1 4.6 2.1 2.2 -0.3 4.7 4.4 11 Jun 1.4 0.0 2.1 4.7 2.1 2.2 -0.3 4.8 4.4 18 Jun 1.5 0.0 2.1 4.8 2.1 2.2 -0.3 4.7 4.4 24 Jun4) 1.5 0.0 2.1 4.8 2.1 2.2 -0.3 4.7 4.3 1) 3-month rates. Per cent 2) 3-month interest rates in Norway's 25 most important trading partners (geometrical average weighted with the OECD's current trade weights). Per cent 3) Yield on government bonds with a residual maturity of 10 years. Per cent 4) Average 21-24 June
3-month rates in the US, the euro area and Japan. Per cent. Monthly figures. Jan 1995 May 2004 7 7
6 6
5 5
4 4 Euro area1) 3 3
2 US 2
1 1 Japan 0 0 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004
1) Theoretical ECU rate up to December 1998 Source: Norges Bank
Inflation report 2/2004 Table 5 Exchange rates Effective exchange rates Bilaterale exchange rates Import-weighted Trade-weighted 1) exchange rate NOK/EUR NOK/USD NOK/SEK exchange rate index2)
1997 99.2 101.0 7.1 92.7 1998 101.7 104.7 7.5 94.9 1999 100.4 105.6 8.3 7.8 94.4 2000 103.3 107.8 8.1 8.8 96.0 2001 100.2 104.4 8.0 9.0 87.0 2002 91.6 96.7 7.5 8.0 82.0 2003 92.8 99.5 8.0 7.1 87.7 2003 Jan 86.3 92.5 7.3 6.9 79.9 Feb 88.3 94.8 7.5 7.0 82.5 Mar 91.6 98.0 7.8 7.3 85.0 Apr 91.5 97.8 7.8 7.2 85.6 May 90.4 97.1 7.9 6.8 86.0 Jun 93.8 100.8 8.2 7.0 89.5 Jul 95.8 102.6 8.3 7.3 90.2 69 Aug 95.8 102.4 8.3 7.4 89.4 Sep 95.5 102.1 8.2 7.3 90.4 Oct 95.1 102.3 8.2 7.0 91.3 Nov 94.8 101.9 8.2 7.0 91.1 Dec 94.1 101.6 8.2 6.7 91.3 2004 Jan 97.5 105.5 8.6 6.8 94.0 Feb 99.5 107.8 8.8 6.9 95.6 Mar 97.6 105.3 8.5 7.0 92.5 Apr 95.6 103.0 8.3 6.9 90.5 May 94.1 101.6 8.2 6.8 89.8 2004 04 Jun 93.6 101.3 8.2 6.7 89.6 11 Jun 94.3 102.0 8.2 6.8 90.1 18 Jun 95.7 103.5 8.3 6.9 91.0 24 Jun3) 95.8 103.6 8.4 6.9 91.1
1) Weights are calculated on the basis of imports from 44 countries which cover 97% of total imports. Current weights based on annual import shares. 2) Nominal effective krone exchange rate calculated on the basis of exchange rates for NOK against the currencies of Norway's 25 most important trading partners (geometrical average weighted with the OECD's current trade weights) 3) Average 21-24 June.
Trade-weighted exchange rate index (TWI) and import-weighted exchange rate (I-44). Monthly figures. Jan 95 May 04 115 115 Trade-weighted exchange rate 110 index, TWI (1990=100) 110
105 105
100 100
95 95 Import-weighted exchange rate, I-44 90 (1995=100) 90
85 85 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 Source: Norges Bank
Inflation report 2/2004 Table 6 Monetary aggregates Money Domestic credit (C2) Total credit (C3) supply
Annual growth/ House- Non- Mainland twelve-month rise M2 Total holds financial Total Norway in per cent enterprices 1997 2.2 8.8 6.7 13.8 9.0 8.7 1998 4.9 9.6 7.5 13.9 11.3 10.9 1999 6.5 7.6 6.6 9.6 10.6 9.6 2000 9.9 10.9 10.3 12.3 9.5 11.8 2001 9.2 11.0 10.9 10.5 8.3 10.8 2002 8.4 9.0 11.2 7.4 7.1 7.3 2003 4.4 7.9 10.4 2.9 5.5 6.1 2003 Jan 6.3 9.1 10.6 7.2 6.6 7.0 Feb 6.2 8.8 10.6 5.9 6.6 6.7 Mar 5.5 8.7 10.7 4.8 6.2 6.8 Apr 5.9 8.1 10.2 3.9 5.8 6.4 70 May 5.8 8.3 10.1 4.4 6.0 6.7 Jun 2.9 7.6 9.9 2.8 5.5 6.0 Jul 3.9 7.5 9.9 2.0 5.3 5.6 Aug 4.6 7.5 9.9 1.9 5.3 5.7 Sep 4.1 7.6 10.2 1.9 5.1 5.7 Oct 2.8 7.6 10.6 1.0 5.2 5.9 Nov 3.3 7.0 10.8 -0.4 4.5 5.4 Dec 1.9 7.1 10.9 -0.9 4.3 5.2
2004 Jan 1.3 7.0 10.8 -1.0 4.1 4.9 Feb 2.0 7.2 10.8 -0.2 4.0 5.1 Mar 3.7 7.1 11.1 -1.1 3.9 5.1 Apr 4.6 7.2 11.4 -1.1 Level last month. 884 1895 1143 602 2328 2118 In billions of NOK
The credit indicator (C2), credit to households and total credit to the non-financial private sector and municipalities, mainland Norway (C3). 12-month rise. Per cent. Monthly figures. Jan 97 Apr 04
15 15
Credit to households
10 10 C2
5 C3 mainland Norway 5
0 0 1997 1998 1999 2000 2001 2002 2003 2004
Source: Norges Bank
Inflation report 2/2004 71
Annex III Detailed projections and assumptions
Inflation report 2/2004 Table 7 GDP growth in other countries
Percentage change from previous year Trading Euro USA Japan Germany France UK Sweden partners1) area2) 1995 2.5 1.9 1.7 1.8 2.8 4.1 2.9 2.3 1996 3.7 3.4 0.8 1.0 2.7 1.3 2.3 1.4 1997 4.5 1.9 1.4 1.9 3.3 2.4 3.1 2.4 1998 4.2 -1.1 2.0 3.6 3.1 3.6 2.8 2.8 1999 4.4 0.1 2.0 3.2 2.8 4.6 3.5 2.8 2000 3.7 2.8 2.9 4.2 3.8 4.3 4.0 3.7 2001 0.5 0.4 0.8 2.1 2.1 0.9 1.4 1.7 2002 2.2 -0.3 0.2 1.1 1.6 2.1 1.4 0.9 2003 3.1 2.7 -0.1 0.5 2.2 1.6 1.3 0.5 Projections 2004 41⁄4 4 11⁄2 2 3 23⁄4 21⁄2 13⁄4 2005 3 11⁄2 13⁄4 21⁄4 21⁄2 23⁄4 21⁄2 21⁄4 2006 3 11⁄2 2 21⁄2 21⁄2 21⁄4 21⁄2 21⁄2 72 2007 3 11⁄2 2 21⁄2 21⁄2 21⁄4 21⁄2 21⁄2
1) Export weights, Norway's 25 most important trading partners 2) Eurostat weights
Sources: OECD and Norges Bank
Table 8 Consumer prices in other countries
Percentage change from previous year Trading Euro USA Japan Germany1) France1) UK1) Sweden partners2) area3) 1995 2.8 -0.1 1.7 1.8 2.7 2.5 2.3 2.9 1996 2.9 0.1 1.2 2.1 2.5 0.5 1.8 2.4 1997 2.3 1.7 1.5 1.3 1.8 0.7 1.6 1.7 1998 1.5 0.7 0.6 0.7 1.6 0.3 1.1 1.2 1999 2.2 -0.3 0.6 0.6 1.3 0.5 1.3 1.2 2000 3.4 -0.7 1.4 1.8 0.8 0.9 2.0 2.1 2001 2.8 -0.7 1.9 1.8 1.2 2.4 2.4 2.4 2002 1.6 -0.9 1.3 1.9 1.3 2.4 1.9 2.3 2003 2.3 -0.3 1.0 2.2 1.4 1.9 1.8 2.1 Projections 2004 23⁄4 0 13⁄4 21⁄4 11⁄2 3⁄4 11⁄2 11⁄2 2005 21⁄4 -1⁄4 11⁄4 11⁄2 2 11⁄2 11⁄2 11⁄2 2006 21⁄2 -1⁄4 13⁄4 13⁄4 2 2 13⁄4 2 2007 21⁄2 -1⁄4 13⁄4 13⁄4 2 2 13⁄4 2
1) HICP, Harmonised Index of Consumer Prices 2) Import weights, Norways 23 most important trading partners 3) HICP. Eurostat weights (each country's share of total euro area consumption.)
Sources: OECD and Norges Bank
Inflation report 2/2004 The fiscal rule and Norges Bank’s assumptions The fiscal rule The fiscal rule, which was introduced in spring 2001 (Report to the Storting No. 29 (2000-2001)), implies that the structural, non-oil budget deficit shall be equivalent over time to the expected real return on the Petroleum Fund. The expected real return on the Petroleum Fund is estimated at 4%.
The guidelines for the use of the expected real return on the Fund’s capital are based on a normal cyclical situation. The guidelines state that in a situation with high activity in the economy, the fiscal stance should be tightened accordingly, while a downturn may necessitate an increase in the use of petroleum revenues. It is also emphasised that in the event of particularly substantial changes in the Fund’s capital or in factors that affect the structural, non-oil deficit from one year to the next, any change in the phasing-in of petroleum revenues must be distributed over several years based on an estimate of the size of the real return on the Fund a few years ahead.
The approved budget for 2004 was based on a structural, non-oil budget deficit of NOK 55.9bn in 2004. 7733 This is NOK 22bn higher than the expected real return on the capital in the Government Petroleum Fund at the beginning of 2004. In the final central government budget bill for 2003, the structural, non-oil budget deficit is estimated at NOK 48.1bn. This is more than NOK 8bn higher than estimated in the National Budget for 2004.
The assumptions in the Inflation Report Norges Bank’s projections are based on the adopted budget for 2004 and the estimates in the Revised National Budget for 2004. The structural, non-oil deficit increased markedly from 2002 to 2003. In the Revised National Budget for 2004, the deficit is expected to rise further, from 3.9% of trend GDP for mainland Norway to 4.2%. Measured by the traditional budget indicator, fiscal policy has had an expansionary effect on the economy since 2002. In the approved budget for this year, the budget balance was weakened by NOK 700m in relation to the Government’s original proposal. Underlying spending growth over the central government budget may be estimated at little less than 51⁄2% in 2004. The rise in total local government revenues is projected at close to 7% from 2003 to 2004. It is assumed that about half of this year’s revenue growth will be used to reduce the deficits. We apply the technical assumption that annual real growth in public spending on goods and services will be about 2% in 2004 and 11⁄2% in 2005, 2006 and 2007. The assumption implies that, in value terms, growth in public expenditure as from 2005 will be approximately in line with revenue growth.
Table: Changes in the structural, non-oil deficit and in the Government Petroleum Fund in the medium term. In billions of NOK (unless otherwise stated). 2004-prices. Government Petrolum Fund, Structural, non-oil deficit, Structural, at the beginning of Expected return, 4 per cent rule percentage of trend GDP non-oil deficit the year1) for mainland Norway 2001 386.6 - 29.4 2.4 2002 619.3 26.4 37.3 3.0 2003 604.6 24.9 49.5 3.9 2004 847.1 33.9 55.2 4.2 2005 1016.2 39.4 55.2 4.2 2006 1151.5 43.1 55.2 4.1 2007 1299.5 46.9 55.2 4.1 2008 1459.1 50.9 55.2 4.0 2009 1639.5 55.2 55.2 4.0 2010 1832.6 59.5 59.5 4.2
1) Current prices.
Source: Revised National Budget 2004
Inflation report 2/2004 Table 9 Technical assumptions
Historical developments I-441) Sight deposit rate 1997 99.2 3.4 1998 101.7 5.5 1999 100.4 6.3 2000 103.3 6.2 2001 100.2 7.0 2002 91.6 6.7 2003 Q1 88.7 6.0 Q2 91.9 5.1 Q3 95.7 3.4 Q4 97.7 2.5 2004 Q1 98.2 2.0
Based on Forward exchange Technical assumptions forward rate interest rates2) 74 2004 Q2 95.1 1.8 Q3 95.6 1.9 Q4 95.5 2.1 2005 Q1 95.4 2.4 Q2 95.3 2.7 Q3 95.2 3.0 Q4 95.2 3.2 2006 Q1 95.1 3.5 Q2 95.1 3.8 Q3 95.2 4.0 Q4 95.2 4.2 2007 Q1 95.3 4.4 Q2 95.3 4.5 Q3 95.4 4.6 Q4 95.5 4.7
1) Import-weighted exchange rate, 44 countries. Weights are calculated on the basis of imports from 44 countries which cover 97% of of total imports. Current weights based on annual import shares. 2) Three-month forward rates are estimated using four money market rates and four government bond yields with different maturities as observed on 24 June. We have deducted 0.25 percentage points from the forward interest rates to provide an expressin of the expected sight deposit rate.
Assumption for money market rate. Forward rate. Assumption for the krone exchange rate (I-44). Monthly figures. Per cent Forward exchange rate. Monthly figures 10 10 110 110
3-month money 8 market rate 8 Import-weighted exchange rate, I-44 100 100
6 Forward rate 24 June 6 (assumption IR 2/04) Forward rate 24 June 4 4 90 (assumption IR 2/04) 90
2 2 80 80 0 0 2001 2002 2003 2004 2005 2006 2007 2001 2002 2003 2004 2005 2006 2007 1)A rising curve denotes a weaker krone exchange rate Source: Norges Bank Source: Norges Bank
Inflation report 2/2004 Table 10 Main macroeconomic aggregates with forward interest rates and forward exchange rates
In billions Percentage change of NOK (unless otherwise stated) Projections 2003 2003 2004 2005 2006 2007 Real economy Mainland demand1) 1270 1.7 41⁄4 31⁄4 23⁄4 21⁄2 - Private consumption 722 3.8 51⁄4 4 23⁄4 23⁄4 - Public consumption 353 1.4 2 11⁄2 11⁄2 11⁄2 - Fixed investment 195 -4.7 33⁄4 4 4 31⁄2 Petroleum investment2) 63 15.8 10 5 5 -5 Traditional exports 189 2.6 51⁄4 31⁄2 3 3 Imports 433 2.2 71⁄2 33⁄4 21⁄2 11⁄2 Mainland GDP 1246 0.6 31⁄2 3 21⁄2 21⁄2 GDP 1563 0.4 23⁄4 3 23⁄4 2 75 Labour market Employment -0.6 1⁄2 11⁄4 3⁄4 3⁄4 Labor force, LFS -0.1 1⁄2 1 3⁄4 3⁄4 Registered unemployment (rate) 3.9 33⁄4 31⁄2 31⁄2 31⁄2 LFS-unemployment (rate) 4.5 41⁄4 4 4 4 Prices og wages CPI3) 2.5 1⁄2 13⁄4 2 21⁄2 CPI-ATE4) 1.1 1⁄2 11⁄2 2 21⁄2 Annual wages5) 41⁄2 33⁄4 41⁄2 43⁄4 43⁄4
1) Private and public consumption and mainland gross fixed investment. 2) Extraction and pipeline transport. 3) Not adjusted for the introduction of maximum prices for day-care places. 4) CPI-ATE: CPI adjusted for tax changes and excluding energy products. Not adjusted for the introduction of maximum prices for day- care places. 5) Annual wage growth is based on the Technical Reporting Committee on Income Settlements' definitions and calculations.
Sources: Statistics Norway, the Technical Reporting Committee on Income Settlements, Aetat Arbeidsdirektoratet og Norges Bank
Inflation report 2/2004 76 Inflation Report nr. 2 - July 2004 July - 2 nr. Report Inflation
Inflation report 2/2004